Accounting for Merchandising Businesses

Accounting for Merchandising Businesses

Overview of Merchandising Businesses

  • Merchandising businesses generate revenue by selling goods.

  • These businesses purchase merchandise from suppliers for resale.

    • Retail companies: Sell goods directly to the final consumer.

    • Wholesale companies: Sell goods to other businesses.

Comparative Income Statements (Autonation, Inc.)

Key Components

  • Revenue:

    • New Vehicles:

    • 2018: $11,751.6 million

    • 2017: $12,180.8 million

    • 2016: $12,255.8 million

    • Used Vehicles:

    • 2018: $5,123.3 million

    • 2017: $4,878.4 million

    • 2016: $4,995.3 million

    • Parts and Service:

    • 2018: $3,447.6 million

    • 2017: $3,398.3 million

    • 2016: $3,321.4 million

    • Finance and Insurance, net:

    • 2018: $981.4 million

    • 2017: $939.2 million

    • 2016: $894.6 million

    • Other Revenue:

    • 2018: $108.9 million

    • 2017: $137.9 million

    • 2016: $141.9 million

  • Total Revenue:

    • 2018: $21,534.6 million

    • 2017: $21,609.0 million

Cost of Sales

  • Components:

    • New Vehicle Costs:

    • 2018: $11,235.5 million

    • 2017: $11,592.4 million

    • 2016: $11,620.0 million

    • Used Vehicle Costs:

    • 2018: $4,781.6 million

    • Parts and Service Costs:

    • 2018: $1,892.3 million

    • Other Costs:

    • 2018: $106.1 million

  • Total Cost of Sales:

    • 2018: $18,015.5 million

    • 2017: $18,175.6 million

    • 2016: $18,295.8 million

Gross Profit

  • Components:

    • New Vehicle:

    • 2018: $516.1 million

    • 2017: $588.4 million

    • Used Vehicle:

    • 2018: $341.7 million

    • Parts and Service:

    • 2018: $1,555.3 million

  • Total Gross Profit:

    • 2018: $3,397.3 million

    • 2017: $3,359.0 million

    • 2016: $3,313.2 million

Operating Income

  • Selling, General, & Administrative Expenses:

    • 2018: $2,509.8 million

  • Operating Income:

    • 2018: $777.9 million

    • 2017: $843.4 million

    • 2016: $889.5 million

Net Income

  • Net Income from Continuing Operations:

    • 2018: $396.0 million

  • Income from Discontinued Operations (net):

    • 2018: $395.9 million

  • Total Net Income:

    • 2018: $396.0 million

Product Costs Versus Selling and Administrative Costs

  • Product Costs:

    • All costs incurred to acquire merchandise and ready it for sale.

  • Selling and Administrative Costs:

    • Costs not included in the inventory, referred to as period costs.

Inventory Cost Allocation

  • Formula for calculating the cost of goods available for sale:


    • extBeginningInventoryBalance+extInventoryPurchasedDuringthePeriod=extCostofGoodsAvailableforSaleext{Beginning Inventory Balance} + ext{Inventory Purchased During the Period} = ext{Cost of Goods Available for Sale}

  • Categories:

    • Merchandise Inventory (balance sheet, asset)

    • Cost of Goods Sold (income statement)

  • Gross Margin (Gross Profit):

    • Difference between sales revenue and cost of goods sold.

  • Net Income Calculation:

    • Net income is determined by subtracting selling and administrative expenses from gross margin.

Perpetual Inventory System

  • Definition: Inventory account adjusted continuously throughout the accounting period.

  • Updates in the system:

    • Inventory increased for merchandise purchased.

    • Inventory decreased for merchandise sold.

Transaction Effects on Financial Statements (Year 1 Events)

Event 1: JPS acquired $15,000 by issuing common stock.

  • Type: Asset Source Transaction

Event 2: JPS purchased merchandise inventory for $14,000 cash.

  • Type: Asset Exchange Transaction

Event 3A: JPS recognized sales revenue from selling inventory for $12,000 cash.

  • Type: Asset Source Transaction

Event 3B: JPS recognized $8,000 of cost of goods sold.

  • Type: Asset Use Transaction

Event 4: JPS paid $1,000 cash for selling expenses.

  • Type: Asset Use Transaction

Event 5: JPS paid $5,500 cash to purchase land for a future store.

  • Type: Asset Exchange Transaction

Inventory Purchasing Considerations

  • Purchasing inventory may involve:

    • Returning inventory or receiving purchase allowances.

    • Taking purchase discounts.

    • Incurring transportation costs.

    • Recognizing inventory shrinkage.

Transaction Effects on Financial Statements (Year 2 Events)

Event 1: JPS borrowed $4,000 cash by issuing a note payable.

  • Type: Asset Source Transaction

Event 2: JPS purchased on account merchandise inventory with a list price of $11,000.

Accounting for Purchase Returns and Allowances

  • Purchased Inventory Return:

    • JPS returned some merchandise purchased, list price of returned merchandise was $1,000.

    • Type: Asset Use Transaction

  • Impact of Purchase Returns:

    • Decreases both assets (merchandise inventory) and liabilities (accounts payable).

Cash Discounts

  • Cash Discounts: Deductions from invoice price to induce early payment.

  • Example: If JPS purchases goods totaling $10,000 and returns $1,000 worth, the net purchases would be:
    10,000−1,000=9,00010,000 - 1,000 = 9,000

  • Cash discount details:

    • Credit terms are presented as 2/10, n/30.

    • This indicates a 2% discount if paid within 10 days.

Accounting for Purchase Discounts

  • Cash discount of 2% on $10,000 (net after return) results in:
    9,000imes0.02=1809,000 imes 0.02 = 180

  • Outstanding balance on accounts payable after applying a cash discount.

Transportation Costs

  • Shipping Terms:

    • FOB Shipping Point: Buyer responsible for freight costs (transportation-in).

    • FOB Destination: Seller responsible for freight costs (transportation-out).

Transportation Costs Calculation

  • For Event 2, if JPS paid $300 for freight costs, this is recorded as Asset Exchange Transaction.

Cash Sale of Merchandise

  • JPS recognized $24,750 in revenue from cash sales of merchandise that cost $11,000.

  • Cost of Goods Sold recognized is $11,500.

Inventory Shrinkage

  • Definition: Reflects decreases in inventory for reasons other than sales.

    • Causes can include theft, damage, or misplacement.

  • Example: After a physical inventory count, JPS recorded $4,100 on hand.

Gross Margin and Gain Recognition

  • Gross Margin is calculated when merchandise is sold for more than the cost:

    • The difference indicates profit.

  • When assets (e.g., land) sold for more than purchased, it indicates a gain.

Recognizing Gains and Losses

  • Example: JPS sold land costing $5,500 for $6,200.

Multi-Step Income Statement

  • More informative than a single-step income statement:

    • Compares sales revenue with cost of goods sold to find gross margin.

    • Operating expenses deducted from gross margin yield operating income:
      extOperatingIncome=extGrossMargin−extOperatingExpensesext{Operating Income} = ext{Gross Margin} - ext{Operating Expenses}

  • Single-Step Income Statement:

    • Displays total revenues minus total expenses.

Common Size Income Statements

  • Used for meaningful comparisons, showing percentages alongside absolute amounts.

Periodic Inventory System

  • Practical for low-tech, high-volume environments with • Simplified accounting processes:

    • No entries in inventory during the period.

    • Cost of goods sold determined at the end of the period

Advantages and Disadvantages of Periodic Inventory System

  • Advantages:

    • Recording efficiency.

  • Disadvantages:

    • Less control over inventory and unable to separate costs of lost, damaged, or stolen goods.