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Chapter 8
Purchasing/Human
Resources/Payment
Process: Recording and
Evaluating Expenditure
Process Activities
McGraw-Hill/Irwin
Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved.
What are the 4 Primary Expenditure
Process Activities?
• Determine the need for goods/services
• Select suppliers and order
goods/services
• Receive goods/services
• Pay suppliers of goods/services
• The last two are considered accounting
events.
8-2
 Specific to the entity, Measurable in
monetary terms, Impact assets, liabilities
or owners’ equity.
What is the Basic Flow of Information as
Described in the Flowchart?
• Inventory control determines the need for
inventory and notifies purchasing
• Purchasing places an order with a vendor
• Receiving notifies accounts payable that
goods have been received
• Accounts payable compares the purchase
order, receiving report, and vendor’s
invoice and notifies the cashier
• Cashier pays the vendor
• General ledger updated
8-3
What is the Difference between
Merchandising and Manufacturing
Inventories?
• Merchandising
 Inventory purchased to be resold
 Merchandise Inventory account
• Manufacturing
 Inventory purchased to be used to make
products
 Raw Materials Inventory account
8-4
What is the Difference between Periodic
and Perpetual Inventory Systems?
• Periodic
 Determine ending inventory and cost of
goods sold (Chapter 10) at the end of the
period
• Perpetual
 Determine cost of goods sold (Chapter
10) and ending inventory on a continuous
basis
8-5
How are Inventory Activities
Recorded in a Periodic System?
• Purchase
 Debit Purchases
 Credit Accounts Payable
• Return or allowance
 Debit Accounts Payable
 Credit Purchase Returns and Allowances
• Freight or insurance on purchases
 Debit Freight-in (Insurance-in)
 Credit Accounts Payable (Cash)
8-6
How are Inventory Activities
Recorded in a Perpetual System?
• Purchase
 Debit Inventory
 Credit Accounts Payable
• Return or allowance
 Debit Accounts Payable
 Credit Inventory
• Freight or insurance on purchases
 Debit Inventory
 Credit Accounts Payable (Cash)
8-7
What is the Difference between the
Net Price and Gross Price Methods?
• Net price
 Purchases and purchase
returns/allowances are recorded net of
the available discount
 Discounts lost are recorded separately
• Gross price
 Purchases and purchase
returns/allowances are recorded at the
gross price
 Discounts taken are recorded separately
8-8
Example
• A company purchases $1,000 (gross) of
inventory (terms: 2/10, n/30),
subsequently returns $200 (gross) of the
inventory, and pays for the inventory
within the discount period.
8-9
Net Price Method/Perpetual
• Purchase
 Increase (debit) inventory by $980 ($1,000 * 0.98)
 Increase (credit) accounts payable by $980
• Return
 Decrease (debit) accounts payable by $196 ($200 *
0.98)
 Decrease (credit) inventory by $196
• Payment within discount period
 Decrease (debit) accounts payable by $784 ($980 - $196)
 Decrease (credit) cash by $784
8-10
Gross Price/Perpetual
• Purchase
 Increase (debit) inventory by $1,000
 Increase (credit) accounts payable by $1,000
• Return
 Decrease (debit) accounts payable by $200
 Decrease (credit) inventory by $200
• Payment within discount period
 Decrease (debit) accounts payable by $800 ($1,000 $200)
8-11
 Decrease (credit) cash by $784 ($800 * 0.98)
 Recognize discount taken (credit inventory) for
$16
What is the Balance in Inventory
under Each Pricing Method?
• Net price
 Inventory = $980 - $196 = $784
• Gross price
 Inventory = $1,000 - $200 - $16 = $784
8-12
What if the Payment is Made After the
Discount Period has Expired?
• Net price
 Decrease (debit) accounts payable by $784 ($980 - $196)
 Recognize discount lost (debit Discounts Lost) for $16
 Decrease (credit) cash by $800 ($784/0.98)
• Gross price
 Decrease (debit) accounts payable by $800 ($1,000 $200)
 Decrease (credit) cash by $800
8-13
Now What is the Balance of Inventory
under Each Pricing Method?
• Net price
 Inventory = $980 - $196 = $784
• Gross price
 Inventory = $1,000 - $200 = $800
• Does this mean that the inventory under the
gross price method is worth more?
 No, it simply reflects management’s beliefs
concerning discounts.
• Gross = cost reduction when taken
• Net = financing cost when lost
8-14
What is the Basic Flow of Information
in the Payroll Process?
• Employees record time worked on time
cards and factory records time worked
on time tickets
• Timekeeping compares time cards and
time tickets
• Payroll records time worked, deductions,
etc.
• Accounts payable approves payroll and
notifies cashier
• Cashier pays employees
8-15
What is the Difference between Gross and
Net Pay from the Employer’s Point of View?
• Gross pay—salary and wage expense
(amount incurred in an attempt to
generate revenue)
• Net pay—cash outflow to employees
• Withholdings—liabilities to pay the entity
to which the funds belong
8-16
What is the Difference between Salary/Wage
Expense and Payroll Tax Expense?
• Salary/wage expense—expense incurred
from using employees in an attempt to
generate revenue
• Payroll tax expense—expense incurred
due to having employees (matching
FICA and unemployment taxes)
8-17
When are Expenses Recognized?
• When incurred, regardless of when cash is
paid. Assume December 31 year for examples
that follow.
 Example #1—receive a utility bill in December,
pay the bill in January, expense is recognized in
?
• December
 Example #2—pay insurance for 6 months in
November, recognize 2 months of insurance
expense in ?
• December
 Example #3—pay the local newspaper in
December for an ad to be run in December,
recognize expense in ?
• December
8-18
Inventory Example
• Inventory is an asset when purchased
• When inventory is sold, we recognize the
expense, called Cost of Goods Sold
8-19
How are Expenditure Process
Activities Communicated to Users?
• Income statement
 Discounts lost, Loss on Inventory, other
expenses
 Cost of goods sold (Chapter 10)
• Balance sheet
 Ending balance of inventory, other
assets, and liabilities
• Statement of cash flows
 Cash paid for inventory and other
expenditure process items
8-20
How can we Estimate the Cash
Paid for Inventory?
Beginning inventory (balance sheet)
+ Net purchases (calculated)
= Maximum inventory available
Cost of goods sold (income statement)
= Ending inventory (balance sheet)
Then,
8-21
Estimating Cash Paid for Inventory,
Continued
Beginning accounts payable (balance
sheet)
+ Net purchases (from inventory
account)
= Maximum amount owed to suppliers
Cash paid for inventory (calculated)
= Ending accounts payable (balance
sheet)