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Chapter 5
Retailing
Operations
Learning Objectives
1.
2.
3.
4.
5.
6.
Account for the purchase of inventory and
GST
Account for the sale of inventory and GST
Adjust and close the accounts of a retailing
business
Prepare a retailer’s financial statements
Use gross profit percentage and the inventory
turnover to evaluate a business
Calculate cost of sales in a periodic inventory
system
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Income Statements
Service Firm
Income Statement
Year ended June 30, 20XX
Service revenue
$xxx
Expenses:
Salary expense
x
Depreciation expense
x
Income tax expense
x
Net profit
$ xx
Retailing Firm
Income Statement
Year ended June 30, 20XX
Sales revenue
$xxx
Cost of goods sold
x
Gross profit
xx
Operating expenses:
Salary expense
x
Depreciation expense
x
Net profit
$ xx
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Operating Cycle of a Retailing
Business
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
GST (Goods and Services Tax)
 Most retailers are registered for GST:




The GST paid is claimed back from the ATO.
The GST collected is paid to the ATO.
(Reality – net difference is paid or claimed.)
So sales and purchases are shown net of GST.
 Retailers who are not registered:
 They do not charge GST on sales.
 GST paid on purchases is added to the cost.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Inventory Systems
Periodic
Perpetual
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Objective 1
Account for the purchase
of inventory and GST
GST.
(The Perpetual Inventory System)
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Purchase of Inventory
Retailer
prepares
purchase
order
d
Suppliers
send
inventory
and
d a bill
Compares
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Purchase of Inventory
Example
 On May 1, the Sporting Store
acquired on account $2,000 (plus
10% GST) of various items for resale.
 The supplier sent the inventory along
with a bill (invoice) stating the
quantity, price, and terms of sale.
 What is the journal entry with GST?
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Purchase of Inventory
Example
May 1
Inventory
2,000
GST Clearing
200
Accounts Payable
2,200
Purchased inventory on account (on credit)
Inventory
2,000
Accounts Payable
2,200
GST
200
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Recording Purchase Returns
and Allowances Example
 Assume that on May 4 a $100 item was
returned prior to payment of the invoice.
 What is the journal entry?
May 4
Accounts Payable
Inventory
GST Clearing
110
100
10
Inventory returned
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Recording Purchase
Returns and Allowances
Example
 Assume that one of the items of
inventory is slightly damaged, and the
store was given a $10 allowance.
 What is the journal entry?
May 4
Accounts Payable
Inventory
GST Clearing
11
10
1
Received a purchase allowance
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Recording Purchase Returns and
Allowances Example
Inventory
2,000 100
10
Bal. 1,890
GST Clearing
200
10
1
Bal 189
Accounts Payable
110 2,200
11
B l 22,079
Bal.
079
A ‘Purchase Returns and Allowances’ account could be used
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Settlement Discounts
 Quantity or trade discounts simply
reduce the cost of purchases.
 Settlement discounts have credit terms
stated in expressions such as:
 2/10, N/30, meaning that a discount of 2%
is allowed if the invoice is paid within 10
days; otherwise the full (net) amount is due
within 30 days.
 Settlement discounts reduce the cost of
inventory.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Settlement Discount Example
 Assume the Sporting Store purchased
inventory for $1,000 (plus GST) with
terms of 2/10, N/30.
 The store paid within the discount
period.
 The 2% discount ($22) is deducted
from the amount due ($1,100) and
$1,078 is remitted (paid).
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Settlement Discounts
Example
 What is the journal entry?
Accounts Payable
1,100
Cash ($1,100 x .98 )
1,078
Inventory ($1,100
($1 100 x .02
02 x 10/11)
20
GST Clearing ($1,100 x .02 x 1/11) 2
Payment of invoice within the discount period
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Transportation Costs
 Transportation costs are the cost of
moving inventory from seller to buyer.
 FOB stands for Free on Board and
governs the passing of title of the
goods.
 Selling/buying agreements usually
specify FOB terms.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Transportation Costs
FOB Shipping
Point
FOB Destination
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Freight Charges
 Freight in charges increase the cost of
inventory (if the supplier had to deliver
the goods they would have charged us
g
p
price).
)
a higher
 Freight out is an operating expense
and is debited to the Delivery
Expenses account.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Objective 2
Account for sale of
inventory and GST
GST.
(The Perpetual Inventory
System)
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sporting Store Example
 Assume that on May 11 the store sold
inventory (merchandise, goods, stock)
costing $1,000 for $3,300 cash (GST
)
inclusive).
 What are the journal entries?
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sporting Store Example
Cash
Sales Revenue
GST Clearing
3,300
3,000
300
To record the cash sale
Cost of Sales
Inventory
1,000
1,000
To record the cost of inventory sold
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sporting Store Example
 On May 15, the store sold on credit to
Maria Gym sporting goods for $5,000 (plus
GST), goods with a cost of $3,000.
500 (not cash)
 Dr Accounts Receivable $5
$5,500
cash).
 Terms are 5/10, N/60.
Maria Gym
Total
Invoice
Terms 5/10, N/60
$5,000 plus GST
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sales Returns, Allowances and
Settlement Discounts Example
 On May 17, Maria Gym returned
$1,100 (includes GST) of goods that
cost $600.
addition, a credit of $220 was
 In addition
allowed for inventory that was
damaged.
 What are the journal entries?
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sales Returns, Allowances and
Settlement Discounts Example
Sales Returns and Allowance 1,000
GST Clearing
100
Accounts Receivable
1,100
Received returned inventory (no GST in Sales Ret.
Ret and
Allow. because Sales are recorded net of GST)
Inventory
Cost of Sales
600
600
Returned goods to inventory (no GST because
Inventory is recorded net of GST)
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sales Returns, Allowances and
Settlement Discounts Example
Sales Returns and Allowance
GST Clearing
Accounts Receivable
200
20
220
Credit granted for damaged goods
 There is no entry required for inventory
since the goods were not returned.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sales Returns, Allowances and
Settlement Discounts Example
 On May 20, the store received a
cheque from Maria Gym for the balance
due.
 What is the balance due?
Accounts Receivable May 15 = $5,500
Less May 17 returns and allowances $1,320
Equals May 20 balance due of $4,180
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sales Returns, Allowances and
Settlement Discounts Example
 Maria took advantage of the sales
terms – 5/10, N/60.
Cash ($4,180
($4 180 x .95)
3 971
3,971
Sales Discounts ($209 x 10/11)
190
GST Clearing ($209 x 1/11)
19
Accounts Receivable
4,180
Cash collected within the discount period
‘Sales Discount’ is a contra ‘Sales’ account
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Using sales, cost of sales
and gross profit
to evaluate a business.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sales Revenue
Net sales
=
Sales Revenue less
Sales Discounts less
Sales Returns
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Gross Profit
Gross Profit
(Gross Margin)
=
Net Sales less
Cost of Sales
(cost to the retailer of the goods they are
selling)
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Objective 3
Adjust and close the
accounts of a retailing
business.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Adjustments to Inventory Example
Book Inventory
Balance
$255,000
Physical
Count
$252,500
$2,500
difference
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Adjustments to Inventory Example
 What is the journal entry?
June 30
Cost of Sales
(or Inventory Loss)
Inventory
2,500
2,500
To adjust inventory to physical count
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Closing Entries for a Retailing Business
Sales
Sales Disc.
2,760,000
7,348
C.O.S.
1,490,400
Supplies Exp.
Income
Summary
1,891,696
2,760,000
868 304
868,304
22,824
Rent Exp.
32,605
Other Exp.
338,519
Capital
868,304
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Closing Entries
 Before the closing entry Rent Expense had
a debit balance of $32,605.
June 30 Closing entry
Income Summary
32,605
Rent Exp.
32,605
To close the rent expense account
 After the closing entry Rent Expense has a
zero balance.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Objective 4
Prepare a retailer’s
financial statements.
statements
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Income Statement Formats

There are two basic formats for the
income statement:
1. Descriptive format (only used for
service businesses)
2. Functional format (provides more
detail of a retailer’s operations)
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Functional Format
Sporting Store
Income Statement
Year Ended June 30, 20X0
Sales revenue
Less Returns and allowances
Less Sales discount
Net sales revenue
Less Cost of goods sold
$2,760,000
0
7,348
2,752,652
1,490,400
Gross profit
1,262,252
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Functional Format
Gross profit
Less Operating expenses:
Rent expense
p
Other expenses
Supplies expense
$1,262,252
32,605
,
338,519
22,824
Total Expenses
393,948
Net profit
$ 868,304
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Objective 5
Use gross profit
percentage
and inventory
y turnover
to evaluate a business.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Using the Financial Statements
for Decision Making
Gross profit percentage = Gross profit
÷ Net sales revenue
Inventory turnover = Cost of Sales
÷ Average inventory
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Gross Profit on $1 of Sales
(example only – not real numbers)
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Exhibit 5-9
Rate of Inventory Turnover for
Two Retailers (example only)
Exhibit 5-10
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Objective 5
Calculate cost of sales in
a periodic inventory
system
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Cost of Sales
 In the periodic inventory system COGS
must be calculated at the end of the
accounting period after a stock-take is
conducted.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Calculating the Cost of
Sales in a Periodic System
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
COS
Beginning Inventory
Plus Purchases
Plus Freight In
L
Less
P
Purchase
h
R
Returns
t
and
d All
Allowances
Equals Cost of Goods Available for Sale
Less Ending Inventory
Equals COS
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Appendix
Accounting for inventory
in a periodic inventory
system
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Purchases
 With the perpetual inventory system
when a purchase is made ‘Inventory’ is
debited.
 With the periodic inventory system
when inventory is purchased we debit
‘Purchases’ account.
 Purchase returns are treated the same
– credit ‘Purchase Returns and
Allowances’.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Sales
 With the perpetual inventory system
when a sale is made we record both
the money flow (‘Accounts Receivable’
and ‘Sales’) and the goods flow
(‘Inventory’ and ‘Costs of Sales’).
 With the periodic inventory system
when inventory is sold we only record
the money flow.
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia
PowerPoint to accompany
End of
Chapter 5
Horngren, Best, Fraser, Willett: Accounting 6e © 2010 Pearson Australia