DISCUSSION QUESTIONS - Benedictine



Chapter 5

accounting for merchandising BUSINESSES

DISCUSSION QUESTIONS

1. Merchandising businesses acquire merchandise for resale to customers. It is the selling of merchandise, instead of 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 (net) sales over cost of merchandise sold. A net loss arises when operating expenses exceed gross profit. Therefore, a business can earn a gross profit but incur operating expenses in excess of this gross profit and end up with a net loss.

3. Examples of such accounts include the following: Sales, Sales Discounts, Sales Returns and Allowances, Cost of Merchandise Sold, Merchandise Inventory.

4. Sales to customers who use MasterCard or VISA cards are recorded as cash sales.

5. The date of sale as shown by the date of the invoice or bill.

6. a. 1% discount allowed if paid within 15 days of date of invoice; entire amount of invoice due within 60 days of date of invoice.

b. Payment due within 30 days of date of invoice.

c. Payment due by the end of the month in which the sale was made.

7. a. A credit memo issued by the seller of merchandise indicates the amount for which the buyer’s account is to be credited (credit to Accounts Receivable) and the reason for the sales return or allowance.

b. A debit memo issued by the buyer of merchandise indicates the amount for which the seller’s account is to be debited (debit to Accounts Payable) and the reason for the purchases return or allowance.

8. a. The buyer

b. The seller

9. Cost of Merchandise Sold would be debited; Merchandise Inventory would be credited.

10. Loss from Merchandise Inventory Shrinkage would be debited.

PRACTICE EXERCISES

PE 5–1A

$315,000 ($275,000 + $990,000 – $950,000)

PE 5–1B

$95,000 ($40,000 + $415,000 – $360,000)

PE 5–2A

a. Accounts Receivable 29,000

Sales 29,000

Cost of Merchandise Sold 21,750

Merchandise Inventory 21,750

b. Cash 28,420

Sales Discounts 580

Accounts Receivable 29,000

PE 5–2B

a. Accounts Receivable 60,000

Sales 60,000

Cost of Merchandise Sold 40,000

Merchandise Inventory 40,000

b. Cash 59,400

Sales Discounts 600

Accounts Receivable 60,000

PE 5–3A

a. $7,350. Purchase of $9,000 less the return of $1,500 less the discount of

$150 [($9,000 – $1,500) × 2%)].

b. Merchandise Inventory

PE 5–3B

a. $25,740. Purchase of $30,000 less the return of $4,000 less the discount of

$260 [($30,000 – $4,000) × 1%].

b. Accounts Payable

PE 5–4A

a. $108,950. Purchase of $120,000 less return of $15,000 less the discount of

$1,050 [($120,000 – $15,000) × 1%] plus $5,000 of shipping.

b. $86,240. Purchase of $90,000 less return of $2,000 less the discount of

$1,760 [($90,000 – $2,000) × 2%].

PE 5–4B

a. $17,820. Purchase of $20,000 less return of $2,000 less the discount of

$180 [($20,000 – $2,000) × 1%].

b. $16,910. Purchase of $18,000 less return of $1,000 less the discount of

$340 [($18,000 – $1,000) × 2%] plus $250 of shipping.

PE 5–5A

Storall Co. journal entries:

Cash ($8,000 – $1,000 – $140) 6,860

Sales Discounts [($8,000 – $1,000) × 2%] 140

Accounts Receivable—Bunting Co. ($8,000 – $1,000) 7,000

Bunting Co. journal entries:

Accounts Payable—Storall Co. ($8,000 – $1,000) 7,000

Merchandise Inventory [($8,000 – $1,000) × 2%] 140

Cash ($8,000 – $1,000 – $140) 6,860

PE 5–5B

SPA Co. journal entries:

Cash ($25,000 – $500 + $675) 25,175

Sales Discounts ($25,000 × 2%) 500

Accounts Receivable—Boyd Co. ($25,000 + $675) 25,675

Boyd Co. journal entries:

Accounts Payable—SPA Co. ($25,000 + $675) 25,675

Merchandise Inventory ($25,000 × 2%) 500

Cash ($25,000 – $500 + $675) 25,175

PE 5–6A

June 30 Cost of Merchandise Sold 8,500

Merchandise Inventory 8,500

Inventory shrinkage ($375,000 – $366,500).

PE 5–6B

Aug. 31 Cost of Merchandise Sold 64,100

Merchandise Inventory 64,100

Inventory shrinkage

($1,380,000 – $1,315,900).

PE 5–7A

a. 2012 2011

Ratio of net sales to assets 1.6* 1.8**

*$880,000/[($500,000 + $600,000)/2]

**$787,500/[($375,000 + $500,000)/2]

b. The change from 1.8 to 1.6 indicates an unfavorable trend in using assets to generate sales.

PE 5–7B

a. 2012 2011

Ratio of net sales to assets 3.0* 2.5**

*$675,000/[($200,000 + $250,000)/2]

**$475,000/[($180,000 + $200,000)/2]

b. The change from 2.5 to 3.0 indicates a favorable trend in using assets to generate sales.

EXERCISES

Ex. 5–1

a. $348,750 ($775,000 – $426,250)

b. 45% ($348,750 ÷ $775,000)

c. No. If operating expenses are less than gross profit, there will be a net income. On the other hand, if operating expenses exceed gross profit, there will be a net loss.

Ex. 5–2

$34,017 million ($45,015 million – $10,998 million)

Ex. 5–3

a. Net sales: $6,540,000 ($6,750,000 – $120,000 – $90,000)

b. Gross profit: $2,540,000 ($6,540,000 – $4,000,000)

c. No, there could be other income and expense items that could affect the amount of net income.

Ex. 5–4

a. Selling expense, (1), (2), (7), (8)

b. Administrative expense, (3), (5), (6)

c. Other expense, (4)

Ex. 5–5

HEARTLAND COMPANY

Income Statement

For the Year Ended November 30, 2012

Revenues:

Net sales $4,200,000

Rent revenue 95,000

Total revenues $4,295,000

Expenses:

Cost of merchandise sold $2,500,000

Selling expenses 400,000

Administrative expenses 300,000

Interest expense 20,000

Total expenses 3,220,000

Net income $1,075,000

Ex. 5–6

1. Sales returns and allowances and sales discounts should be deducted from (not added to) sales.

2. Sales returns and allowances and sales discounts should be deducted from sales to yield "net sales" (not gross sales).

3. Deducting the cost of merchandise sold from net sales yields gross profit.

4. Deducting the total expenses from gross profit would yield income from operations (or operating income).

5. Interest revenue should be reported under the caption “Other income” and should be added to income from operations to arrive at net income.

6. The final amount on the income statement should be labeled net income, not gross profit.

A correct income statement would be as follows:

KEEPSAKES COMPANY

Income Statement

For the Year Ended February 29, 2012

Revenue from sales:

Sales $7,200,000

Less: Sales returns and allowances $275,000

Sales discounts 130,000 405,000

Net sales $6,795,000

Cost of merchandise sold 4,075,000

Gross profit $2,720,000

Expenses:

Selling expenses $ 950,000

Administrative expenses 475,000

Delivery expense 125,000

Total expenses 1,550,000

Income from operations $1,170,000

Other income:

Interest revenue 30,000

Net income $1,200,000

Ex. 5–7

a. $30,000 ($300,000 – $20,000 – $250,000)

b. $150,000 ($250,000 – $100,000)

c. $552,000 ($600,000 – $30,000 – $18,000)

d. $222,000 ($552,000 – $330,000)

e. $5,000 ($850,000 – $70,000 – $775,000)

f. $475,000 ($775,000 – $300,000)

g. $550,000 ($515,000 + $10,000 + $25,000)

h. $515,000 ($400,000 + $115,000)

Ex. 5–8

a.

WARM PLACE FURNISHINGS COMPANY

Income Statement

For the Year Ended December 31, 2012

Revenue from sales:

Sales $3,000,000

Less: Sales returns and allowances $160,000

Sales discounts 40,000 200,000

Net sales $2,800,000

Cost of merchandise sold 1,700,000

Gross profit $ 1,100,000

Expenses:

Selling expenses $ 450,000

Administrative expenses 250,000

Total expenses 700,000

Income from operations $ 400,000

Other expense:

Interest expense 30,000

Net income $ 370,000

b. The major advantage of the multiple-step form of income statement is that relationships such as gross profit to sales are indicated. The major disadvantages are that it is more complex and the total revenues and expenses are not indicated, as is the case in the single-step income statement.

Ex. 5–9

Balance Sheet Accounts

100 Assets

110 Cash

112 Accounts Receivable

114 Merchandise Inventory

115 Store Supplies

116 Office Supplies

117 Prepaid Insurance

120 Land

123 Store Equipment

124 Accumulated Depreciation—

Store Equipment

125 Office Equipment

126 Accumulated Depreciation—

Office Equipment

200 Liabilities

210 Accounts Payable

211 Salaries Payable

212 Notes Payable

300 Stockholders’ Equity

310 Capital Stock

311 Retained Earnings

312 Dividends

313 Income Summary

Income Statement Accounts

400 Revenues

410 Sales

411 Sales Returns and

Allowances

412 Sales Discounts

500 Expenses

510 Cost of Merchandise Sold

520 Sales Salaries Expense

521 Advertising Expense

522 Depreciation Expense—

Store Equipment

523 Store Supplies Expense

524 Delivery Expense

529 Miscellaneous Selling

Expense

530 Office Salaries Expense

531 Rent Expense

532 Depreciation Expense—

Office Equipment

533 Insurance Expense

534 Office Supplies Expense

539 Miscellaneous Admin-

istrative Expense

600 Other Expense

610 Interest Expense

Note: The order and number of some of the accounts within subclassifications is somewhat arbitrary, as in accounts 115–117, accounts 520–524, and accounts 530–534. For example, in a new business, the order of magnitude expense account balances often cannot be determined in advance. The magnitude may also vary from period to period.

Ex. 5–10

a. Cash 30,000

Sales 30,000

Cost of Merchandise Sold 18,000

Merchandise Inventory 18,000

b. Accounts Receivable 120,000

Sales 120,000

Cost of Merchandise Sold 72,000

Merchandise Inventory 72,000

c. Cash 100,000

Sales 100,000

Cost of Merchandise Sold 70,000

Merchandise Inventory 70,000

d. Cash 45,000

Sales 45,000

Cost of Merchandise Sold 27,000

Merchandise Inventory 27,000

e. Credit Card Expense 9,000

Cash 9,000

Ex. 5–11

It was acceptable to debit Sales for the $80,000. However, using Sales Returns and Allowances assists management in monitoring the amount of returns so that quick action can be taken if returns become excessive.

Accounts Receivable should also have been credited for $80,000. In addition, Cost of Merchandise Sold should only have been credited for the cost of the merchandise sold, not the selling price. Merchandise Inventory should also have been debited for the cost of the merchandise returned. The entries to correctly record the returns would have been as follows:

Sales (or Sales Returns and Allowances) 80,000

Accounts Receivable 80,000

Merchandise Inventory 48,000

Cost of Merchandise Sold 48,000

Ex. 5–12

a. $39,200 [$40,000 – ($40,000 × 2%)]

b. Sales Returns and Allowances 40,000

Sales Discounts 800

Cash 39,200

Merchandise Inventory 24,000

Cost of Merchandise Sold 24,000

Ex. 5–13

(1) Sold merchandise on account, $35,000.

(2) Recorded the cost of the merchandise sold and reduced the merchandise inventory account, $21,000.

(3) Accepted a return of merchandise and granted an allowance, $2,000.

(4) Updated the merchandise inventory account for the cost of the merchandise returned, $1,200.

(5) Received the balance due within the discount period, $32,340. [Sale of $35,000, less return of $2,000, less discount of $660 (2% × $33,000).]

Ex. 5–14

a. $18,000

b. $18,600

c. $360 ($18,000 × 2%)

d. $18,240 ($18,600 – $360)

Ex. 5–15

a. $8,910 [Purchase of $12,000, less return of $3,000, less discount of $90 [($12,000 – $3,000) × 1%)]

b. Merchandise Inventory

Ex. 5–16

Offer F is lower than offer E. Details are as follows:

E F

List price $30,000 $29,500

Less discount 300 590

$29,700 $28,910

Freight 375

$29,700 $29,285

Ex. 5–17

(1) Purchased merchandise on account at a cost of $15,000.

(2) Paid freight, $400.

(3) An allowance or return of merchandise was granted by the creditor, $3,000.

(4) Paid the balance due within the discount period: debited Accounts Payable, $12,000, and credited Merchandise Inventory for the amount of the discount, $240, and Cash, $11,760.

Ex. 5–18

a. Merchandise Inventory 36,000

Accounts Payable 36,000

b. Accounts Payable 4,000

Merchandise Inventory 4,000

c. Accounts Payable 32,000

Cash 31,360

Merchandise Inventory 640

Ex. 5–19

a. Merchandise Inventory 60,000

Accounts Payable—Sierra Co. 60,000

b. Accounts Payable—Sierra Co. 60,000

Cash 59,400

Merchandise Inventory 600

c. Accounts Payable*—Sierra Co. 9,900

Merchandise Inventory 9,900

d. Merchandise Inventory 7,500

Accounts Payable—Sierra Co. 7,500

e. Cash 2,400

Accounts Payable—Sierra Co. 2,400

*Note: The debit of $9,900 to Accounts Payable in entry (c) is the amount of cash refund due from Sierra Co. It is computed as the amount that was paid for the returned merchandise, $10,000, less the purchase discount of $100 ($10,000 × 1%). The credit to Accounts Payable of $7,500 in entry (d) reduces the debit balance in the account to $2,400, which is the amount of the cash refund in entry (e). The alternative entries below yield the same final results.

c. Accounts Receivable—Sierra Co. 9,900

Merchandise Inventory 9,900

d. Merchandise Inventory 7,500

Accounts Payable—Sierra Co. 7,500

e. Cash 2,400

Accounts Payable—Sierra Co. 7,500

Accounts Receivable—Sierra Co. 9,900

Ex. 5–20

a. $35,000 ($36,000 – $1,000)

b. $8,999 [($10,000 – $1,200) – ($8,800 × 2%) + $375]

c. $7,425 [($8,250 – $750) – ($7,500 × 1%)]

d. $3,630 [($4,000 – $500) – ($3,500 × 2%) + $200]

e. $8,415 [$8,500 – ($8,500 × 1%)]

Ex. 5–21

a. At the time of sale

b. $28,000

c. $29,960 [$28,000 + ($28,000 × 7%)]

d. Sales Tax Payable

Ex. 5–22

a. Accounts Receivable 13,416

Sales 12,900

Sales Tax Payable ($12,900 × 4%) 516

Cost of Merchandise Sold 7,800

Merchandise Inventory 7,800

b. Sales Tax Payable 32,750

Cash 32,750

Ex. 5–23

a. Accounts Receivable—Boyle Co. 45,000

Sales 45,000

Cost of Merchandise Sold 27,000

Merchandise Inventory 27,000

b. Sales Returns and Allowances 9,000

Accounts Receivable—Boyle Co. 9,000

Merchandise Inventory 5,400

Cost of Merchandise Sold 5,400

c. Cash 35,280

Sales Discounts 720

Accounts Receivable—Boyle Co. 36,000

Ex. 5–24

a. Merchandise Inventory 45,000

Accounts Payable—Skycrest Co. 45,000

b. Accounts Payable—Skycrest Co. 9,000

Merchandise Inventory 9000

c. Accounts Payable—Skycrest Co. 36,000

Cash 35,280

Merchandise Inventory 720

Ex. 5–25

a. debit

b. debit

c. debit

d. credit

e. debit

f. debit

g. credit

Ex. 5–26

Cost of Merchandise Sold 22,275

Merchandise Inventory 22,275

Inventory shrinkage ($715,950 – $693,675).

Ex. 5–27

(b) Advertising Expense

(c) Cost of Merchandise Sold

(e) Sales

(f) Sales Discounts

(g) Sales Returns and Allowances

(i) Supplies Expense

Note: (j) Dividends is closed to Retained Earnings, not Income Summary.

Ex. 5–28

2012

Dec. 31 Sales 3,000,000

Income Summary 3,000,000

31 Income Summary 2,630,000

Sales Discounts 40,000

Sales Returns and Allowances 160,000

Cost of Merchandise Sold 1,700,000

Selling Expenses 450,000

Administrative Expenses 250,000

Interest Expense 30,000

31 Income Summary 370,000

Retained Earnings 370,000

31 Retained Earnings 50,000

Dividends 50,000

Ex. 5–29

2012

Aug. 31 Sales 800,000

Income Summary 800,000

31 Income Summary 641,000

Administrative Expenses 90,000

Cost of Merchandise Sold 350,000

Interest Expense 1,000

Sales Discounts 18,000

Sales Returns and Allowances 12,000

Selling Expenses 150,000

Store Supplies Expense 20,000

31 Income Summary 159,000

Retained Earnings 159,000

31 Retained Earnings 5,000

Dividends 5,000

Ex. 5–30

a. 2009: 1.67 {$71,288 ÷ [($41,164 + $44,324) ÷ 2]}

2008: 1.60 {$77,349 ÷ [($44,324 + $52,263) ÷ 2]}

b. These analyses indicate a slight increase in the effectiveness in the use of the assets to generate profits. A comparison with similar companies or industry averages would be helpful in making a more definitive statement on the effectiveness of the use of the assets.

Note to Instructors: During 2006–2009, the U.S. economy slowed resulting in a decrease in construction and building. This slowdown likely affected The Home Depot’s sales and ratio of net sales to total assets.

Ex. 5–31

a. 3.34 {$76,000 ÷ [($23,211 + $22,299) ÷ 2]}

b. Although Kroger and Tiffany are both retail stores, Tiffany sells jewelry at a much slower velocity than Kroger sells groceries. Thus, Kroger is able to generate $3.34 of sales for every dollar of assets. Tiffany, however, is only able to generate $0.95 in sales per dollar of assets. This difference is reasonable when one considers the sales rate for jewelry and the cost of holding

jewelry inventory, relative to groceries. Fortunately, Tiffany is able to offset its slow sales velocity, relative to groceries, with higher gross profits, relative to groceries.

Note to Instructors: For 2009, Kroger’s gross profit percentage (gross profit divided by revenues) was 22.9%, while Tiffany’s gross profit percentage was 57.5%. Kroger’s ratio of operating income to revenues was 3.2%, while Tiffany’s ratio of operating income to revenues was 13.1%.

Appendix Ex. 5–32

a. Purchases discounts, purchases returns and allowances

b. Freight in

c. Merchandise available for sale

d. Merchandise inventory (ending)

Appendix Ex. 5–33

a. Cost of merchandise sold:

Merchandise inventory, July 1, 2011 $ 250,000

Purchases $2,100,000

Less: Purchases returns and

allowances $50,000

Purchases discounts 39,000 89,000

Net purchases $2,011,000

Add freight in 12,500

Cost of merchandise purchased 2,023,500

Merchandise available for sale $2,273,500

Less merchandise inventory,

June 30, 2012 325,000

Cost of merchandise sold $1,948,500

b. $1,301,500 ($3,250,000 – $1,948,500)

c. No. Gross profit would be the same if the perpetual inventory system was used.

Appendix Ex. 5–34

Cost of merchandise sold:

Merchandise inventory, April 1 $ 15,000

Purchases $290,000

Less: Purchases returns and allowances $10,000

Purchases discounts 5,800 15,800

Net purchases $274,200

Add freight in 4,200

Cost of merchandise purchased 278,400

Merchandise available for sale $ 293,400

Less merchandise inventory, April 30 28,000

Cost of merchandise sold $265,400

Appendix Ex. 5–35

Cost of merchandise sold:

Merchandise inventory, March 1 $ 100,000

Purchases $800,000

Less: Purchases returns and allowances $15,000

Purchases discounts 12,000 27,000

Net purchases $773,000

Add freight in 8,000

Cost of merchandise purchased 781,000

Merchandise available for sale $881,000

Less merchandise inventory, March 31 90,000

Cost of merchandise sold $791,000

Appendix Ex. 5–36

1. The schedule should begin with the April 1, 2011, not the March 31, 2012, merchandise inventory.

2. Purchases returns and allowances and purchases discounts should be deducted from (not added to) purchases.

3. The result of subtracting purchases returns and allowances and purchases discounts from purchases should be labeled “net purchases.”

4. Freight in should be added to net purchases to yield cost of merchandise purchased.

5. The merchandise inventory at March 31, 2012, should be deducted from merchandise available for sale to yield cost of merchandise sold.

A correct cost of merchandise sold section is as follows:

Cost of merchandise sold:

Merchandise inventory, April 1, 2011 $ 80,000

Purchases $900,000

Less: Purchases returns and allowances $18,000

Purchases discounts 12,000 30,000

Net purchases $870,000

Add freight in 10,000

Cost of merchandise purchased 880,000

Merchandise available for sale $960,000

Less merchandise inventory,

March 31, 2012 75,000

Cost of merchandise sold $885,000

Appendix Ex. 5–37

a) debit

b) debit

c) credit

d) credit

e) credit

f) debit

g) credit

Appendix Ex. 5–38

July 2 Purchases 24,000

Accounts Payable 24,000

5 Freight In 500

Cash 500

6 Accounts Payable 4,000

Purchases Returns and Allowances 4,000

13 Accounts Receivable 15,000

Sales 15,000

15 Delivery Expense 100

Cash 100

17 Accounts Payable 20,000

Purchases Discounts 400

Cash 19,600

23 Cash 14,850

Sales Discounts 150

Accounts Receivable 15,000

Appendix Ex. 5–39

July 2 Merchandise Inventory 24,000

Accounts Payable 24,000

5 Merchandise Inventory 500

Cash 500

6 Accounts Payable 4,000

Merchandise Inventory 4,000

13 Accounts Receivable 15,000

Sales 15,000

13 Cost of Merchandise Sold 9,000

Merchandise Inventory 9,000

15 Delivery Expense 100

Cash 100

17 Accounts Payable 20,000

Merchandise Inventory 400

Cash 19,600

23 Cash 14,850

Sales Discounts 150

Accounts Receivable 15,000

Appendix Ex. 5–40

Jan. 31 Merchandise Inventory 300,000

Sales 1,200,000

Purchases Discounts 12,000

Purchases Returns and Allowances 8,000

Income Summary 1,520,000

31 Income Summary 1,317,000

Merchandise Inventory 250,000

Sales Discounts 20,000

Sales Returns and Allowances 30,000

Purchases 750,000

Freight In 8,000

Salaries Expense 175,000

Advertising Expense 40,000

Depreciation Expense 15,000

Miscellaneous Expense 29,000

31 Income Summary 203,000

Retained Earnings 203,000

31 Retained Earnings 60,000

Dividends 60,000

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