Introduction to Financial Accounting Exam 2 Study Guide Chapter 5 Merchandising Operations and the Multiple Step Income Statement Merchandizing Companies middleman who buy and sell goods o Sales revenue is the primary source of revenue o Costs of Goods Sold the total cost of merchandise sold during a The operating cycle of a merchandising company is longer than a service oriented company period amounts o Perpetual Inventory System constantly updating inventory CoGS is determined every time a sale occurs o Periodic Inventory System checks and evaluated inventory occasionally companies that use this method MUST use the Oak Tree Formula to find CoGS CoGS is determined only at the ending of the accounting period Oak Tree Formula Beginning Inventory Add Purchases net Goods Available for Sale Deduct Ending Inventory Costs of Goods Sold Gross Margin Profit Sales Revenue Costs of Goods Sold Gross Profit Inventory Costs Shipping Terms o The total price paid for inventory including price shipping insurance etc the total cost paid in preparation to be sold o FOB free on board o FOB Shipping seller s only obligation is to get it to the shipping point buyer pays shipping o FOB Destination seller is obligated to get it to the destination seller pays shipping transit o Generally whoever paid for the shipping cost owns the good while in o Any shipping costs in a sale are included as a shipping expense and are often called Freight Out 1 Purchase of Merchandise Purchase of Merchandise Inventory xxx Accounts Payable xxx Purchase Returns and Allowances o Purchase Return buyer returns the good for a cash refund o Purchase Allowance buyer chooses to keep the good if seller grants a partial refund Purchase Returns Accounts Payable xxx Inventory xxx this is a supplier to business relationship not business to customer Purchase Discounts o Allows buyers to get a cash discount for an early payment Purchase Discounts 2 10 n 30 2 percent discount if paid within 10 days otherwise net amount is due in 30 days Purchase Discounts Accounts Payable full price xxx Cash Inventory price discount discount amount Payment without Discounts Accounts Payable full xxx Cash 2 xxx Recording the Sale of Merchandise o Two transactions are involved the first to record the selling price the second to record the cost Sale of Merchandise Cash or A R Sales Revenue xxx xxx xxx Selling Price Inventory Cost Cost of Goods Sold Merchandise Inventory Return of Merchandise Sale xxx Sales Returns and Allowances xxx A R or Cash xxx Inventory CoGS xxx xxx Sales Discounts Cash Sales Discount A R full discount xxx full Sales Returns and Allowances o Contra revenue account debit balance Sales Discounts o Contra revenue account debit balance o Both contra accounts are subtracted from Revenue in the income statement to produce net sales 3 Gross Profit Rate measure indicates how much of each sales dollar is left after deducting the CoGS which will then cover expenses and provide a profit Gross Profit Rate Gross Profit Net Sales Income Statements o Single Step Income Statement Total expenses subtracted from revenues to yield net income Used because 1 company does not recognize profit until revenues exceed expenses and 2 easy to understand o Multi Step Income Statement Useful because it incorporates more aspects of net income Single Step Revenues Expenses Net Income Multi Step Net Sales CoGS Gross Profit Operating Expenses Income from Operations Other Items Net Income Chapter 6 Reporting and Analyzing Inventory Classifying Inventory Inventory o Merchandising Companies have one classification Merchandise o Manufacturing Companies have 3 classifications raw materials works in progress finished goods Inventory Management o High inventory levels lead to carrying costs storage damage insurance o Low levels lead to lost sales o Inventory is taken at the end of an accounting period o Goods in transit should be included in the inventory of the company that has the legal title to the goods Inventory Costing 4 o Methods for unit costing assign a dollar amount to the goods available for sale Specific Identification items are specifically costed per unit Used for lower volume high dollar amount inventory ex Cars Average cost Allocates CoGS to a weighted average CoGS and Ending Inventory will ALWAYS equal Goods Available for Sale Average Cost Costs of Goods Available for Sale Number of Units Available for Sale FIFO First In First Out The costs of the oldest inventory items are charged to CoGS Newest items remain in ending inventory Good business practice to sell oldest units first Most companies use FIFO because it gives you a higher net income and therefore stock price The cost of the newest inventory items are charged to the CoGS when goods are sold LIFO gives you larger cash flow because of greater taxes Not permitted under IFRS but is under GAAP LIFO Last In First Out Chapter 7 Fraud internal Control and Cash o Fraud a dishonest act by an individual that results in a benefit to the individual at a cost to an employer Factors of Fraud Opportunity Financial Pressure Rationalization o Internal Control 5 Safeguard assets enhance accuracy in reporting efficiency ensure legal compliance Primary Components Control environment Risk assessment Control activities Monitoring Information and communication o Bank Reconciliation Two sides to be reconciled Balance per bank Balance per books Reconciliation Process Bank Statement a monthly report issued by a bank that contains details on the company s financials Bank Reconciliation a report prepared by the company after receiving the bank statement that compares and verifies against the company s records Outstanding Check a check recorded by the company but not yet cleared by the bank Deposit in Transit a deposit that the company has made but has yet to be credited by the bank NSF Check a bad check written by a customer that has to be removed from the company s records Credit Memo money added to the company s account by the Debit Memo money deducted from the company s account bank i e direct deposit i e service charges Example Bank Balance Example Book Balance Balance Plus Deposits in Transit Less Outstanding Checks Adjusted True Cash Balance at Date 8 668 400 1 380 7 688 6 Bank and Book Adjusted Balance 6 872 Plus Notes collected bank 1 000 Less Outstanding Checks 30 Bookkeeper Error 54 NSF Check Returned 100 Adjusted True Cash Balance at Date 7 688 Chapter 8 Reporting and Analyzing Receivables Valuing Accounts Receivable
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