NATURE OF MERCHANDISING BUSINESS
Unlike service concern where the business generates income from rendering of services to customers or clients, in
merchandising business, it generates revenue from sale of goods or commodities that it buys. The business therefore could be a buyer
at one hand and a seller on the other hand. Basically, buying and selling are the two major activities involve in a Merchandising
Business.
ACCOUNT TITLES PECULIAR TO MERCHANDISING BUSINESS
ASSET: Merchandise Inventory:
Merchandise Inventory (Inventory or MI) refers to the goods the company has purchased and intends to sell to others. Inventory
is a current asset since the company intends to sell it within one year.
Merchandise Inventory, End – this refers to unsold merchandise at end of the accounting period as determined by physical counting
or inventory taking. It is usually dated December 31. The normal balance is a debit.
Merchandise Inventory, Beginning- the merchandise inventory at the beginning of the period which is usually dated Jan. 1 is an
asset but will turn to “cost” when such period ended. The account is usually credited in the adjustment.
COSTS
Cost of Sales or Cost of Goods Sold:
Inventory that has been sold becomes an expense, Cost of Goods Sold, in the period of sale.
Purchasing Transactions:
Inventory account is increased for the cost of the merchandise purchased plus the freight cost necessary to transport the
inventory to the buyer’s place of business (FOB shipping point).
Inventory is always recorded at the final cost to the buyer, purchase price less allowances received from the seller and any
cash discounts taken
Trade discounts are deducted as part of the initial purchase transaction; they are not a purchase discount.
Purchases – refers to the account title for merchandise that are purchased under periodic inventory while under perpetual inventory
system it is treated as merchandise inventory which is an asset. The normal balance of the account in a debit.
Purchase returns and allowances:
Inventory account is decreased for the cost of the merchandise returned to the seller less any allowances or discounts already
recorded in the ledger.
This is the account title for merchandise that were purchased but returned to the supplier for bad order or does not conform with the
specifications. The normal balance of the account is credit.
Purchase Discounts – refers to the discount availed for early payment of an account or payment within the discount period. Like
purchase returns and allowances, it is also a reduction from “Purchases” under periodic inventory system and merchandise inventory
account under perpetual inventory system.
Sales Transactions:
Inventory account is decreased and cost of goods sold is increased for the cost of the merchandise sold.
The freight cost necessary to transport the inventory to the buyer’s place of business is an expense in the period of sale
(FOB Destination). Transportation Out or Freight Out are typical accounts used to record the expense.
The selling price of the merchandise sold represents revenue to the seller and is recorded in a separate transaction.
Trade discounts are deducted as part of the initial sale transaction; they are not a sales discount nor a contra-revenue.
SALES – refers to the account title of merchandise that are sold either in cash or on account. The normal balance of the account is a
credit.
Sales Returns and allowances:
Inventory account is increased and cost of goods sold is decreased for the cost of the merchandise returned by the buyer.
Sales returns and allowances increased and cash or A/R is decreased for the selling price of the merchandise returned by the buyer.
This is a reduction from sales account for goods that were already sold but were returned by the buyer due to bad order or not
conforming with the specifications. The normal balance of the account is a debit.
Sales Discounts – refers to a discount as an inducement given to the buyer for early payment of an account or if payment is made
within the discount period. The normal balance of the account is a debit.
Periodic and Perpetual Inventory Systems. There are two methods of handling inventories:
· the periodic inventory system, and the perpetual inventory system
With the periodic inventory system, the firm calculates its Cost of Goods Sold at the end of the year. The firm takes its
beginning inventory, and adds its purchases for the period. This gives the firm all the goods that pass through the firm for
the period (the goods available for sale). The firm then takes a physical inventory. This gives the firm what is left at the
end of the period. The ending
inventory is then subtracted from the available goods figure to get the cost of goods sold.
Two disadvantages of the periodic method are:
· This method does not give the firm much information on the theft or spoilage of goods. (Everything not present is
assumed to be sold.)
· Unless a physical inventory is taken, the firm does not know what its cost of goods sold is during the period (as opposed
to the end of the period).
An advantage of the periodic method is that it is a easy system to maintain. With the perpetual inventory system, the
firm keeps track of its cost of goods sold on a continual basis. Thus, at any given time, the firm can estimate its current
inventory levels. At the end of the period, a physical inventory is taken. Any discrepancy with the estimated inventory level
and the actual inventory level is then attributed to theft and spoilage.
An advantage of the perpetual system is that it provides information about theft and you have a Cost of Goods Sold
figure whenever needed. A disadvantage of the perpetual system used to be that it was very expensive to maintain this
type of system. With the use of computers and scanners, the marginal cost to implement a perpetual system may be
minimal.
