COLLEGE OF ARTS AND SCIENCES

San Beda University

Mendiola, Manila

MERCHANDISING ACCOUNTING - Lecture Notes

I. Merchandising Operations
A. Introduction
1. A merchandising company is an entity that purchases and sells goods to earn a profit.
2. Define merchandise or merchandise inventory— goods held for sale to customers in the
normal course of business. Note that this includes only goods held for resale.
3. A merchandising company’s primary source of revenue is sales.
4. Expenses for a merchandising company are divided into two categories:
a) cost of goods sold (COGS)—total cost of merchandise sold during the period and
b) Operating expenses (OP)—expenses incurred in the normal process of the operation
of the business. Normally classified as selling and administrative expense.
5. Gross profit (GP) is equal to Sales less Cost of Goods Sold.

B. Operating Cycles—Operating Cycles for a service company and a merchandiser:

1. Service Company operating cycle (to go from cash to cash) involves performing services
which may be on account involving accounts receivable and finally receiving the cash.
2. Merchandising Company operating cycle (cash to cash) involves:
a) Buy Inventory,
b) Sell Inventory,
c) Obtain Accounts Receivable, and
d) Cash Receipts.

C. Inventory Systems—Merchandising entities may use either of the following inventory

systems:
a) Perpetual System—System wherein all inventory transactions are perpetually are
maintained and recorded for every transaction.
b) Record purchase of Inventory.
c) Record revenue and record cost of goods sold when the item is sold.
d) At the end of the period, no entry is needed except to adjust inventory for losses, etc.
e) Businesses wherein inventory consists of slow moving but high valued items.

2. Periodic System —Cost of goods sold is determined only at the end of an accounting
period. Inventory count is periodically done to account for the balance of the inventory
account. This system involves:
a) Record purchase of Inventory.
b) Record revenue only when the item is sold.
c) At the end of the period, you must compute cost of goods sold (COGS):
1) Determine the cost of goods on hand at the beginning of the accounting period
(Beginning Inventory = BI),
2) Add it to the cost of goods purchased (COGP),
3) Subtract the cost of goods on hand at the end of the accounting period (Ending
Inventory = EI) illustrated as follows:
BI + COGP = Cost of goods available for sale - EI = COGS
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II. Recording Purchases and Sales of Merchandise under the Perpetual System
A. PURCHASES OF MERCHANDISE: MERCHANDISE PURCHASE ENTRIES FOR A
MERCHANDISER (PERPETUAL SYSTEM):
1. When merchandise is purchased, the account, Merchandise Inventory, is debited for the
cost of goods purchased.
2. Like sales, purchases may be made for cash or on account (credit).
3. The purchase is normally recorded by the purchaser when the goods are received from the
seller.
a) Note that only purchases of merchandise are debited to Merchandise Inventory.
Purchases if other assets: supplies, equipment, and similar items) are debited to their
respective accounts.

B. PURCHASE RETURNS AND ALLOWANCES

1. Occurs when purchased goods
a) are damaged or defective,
b) are of inferior quality, or
c) are not in accord with the purchaser’s specifications.
2. The purchaser initiates the request for a reduction of the balance due through the issuance
of a debit memorandum.

3. The debit memorandum is a document issued by a buyer to inform a seller that the seller’s
account has been debited because of unsatisfactory merchandise.
4. A purchase return or a purchase allowance (a deduction from the purchase price when
unsatisfactory goods are kept) is shown by the entry where Accounts Payable is debited and
Merchandise Inventory is credited to show that the cost of the Merchandise Inventory is
reduced with a return or an allowance.

C. ACCOUNTING FOR FREIGHT COSTS

a) FOB Shipping Point
1) Goods placed free on board (FOB) the carrier by seller.
2) Buyer pays freight costs.
a. Merchandise Inventory is debited if buyer pays freight under perpetual.
Freight in is debited when using periodic.
b) FOB Destination
1) Goods placed free on board (FOB) at buyer’s business.
2) Seller pays freight costs.
3) Sale or purchase is recorded on the date the goods were reaches the
place of the buyer.

2. Freight-out (or Delivery Expense) is debited if seller pays freight on outgoing

merchandise to a buyer which is an operating expense to the seller.

D. PURCHASE/ SALES DISCOUNTS:

1. Trade discount – no entries to record discount. Purchase price recorded is net of
discount.
2. Cash discount – encourages for early or prompt payment. Does not guarantee
collection.
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III. Completing the Accounting Cycle
A. Adjusting Entries
1. A merchandiser has the same adjusting entries as a service company.
2. But a merchandiser will have one additional adjustment to make the records agree with the
actual inventory on hand.
a) The perpetual inventory records may be incorrect due to a variety of causes such as
recording errors, theft, or waste.
b) The adjusting entry involves adjusting Merchandise Inventory and Cost of Goods
Sold.
1) An example follows of the adjusting entry to adjust if book amount is higher than
the inventory amount determined to be on hand.
2) The entry is a debit Cost of Goods Sold and credit Merchandise Inventory.

B. Closing Entries are completed at the end of the fiscal year are journalized into the general
journal and posted to the general ledger to:
1. Same closing entries as a service company except
a) Close beginning inventory if using periodic inventory method
b) Adjust ending inventory if using direct extension method

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Accounting Principles Reviewer
Lifted from Accounting Principles 9th edition, Kieso, Weygandt.

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