06/01/2014

Accounting Principles
Retailing operations

Learning objectives

Describe retailing operations, perpetual and periodic inventory

systems and understand how to account for GST

Account for the purchase of inventory using a perpetual system

Account for the sale of inventory using a perpetual system

Adjust and close the accounts of a retailing business

Prepare a retailers financial statements

Use gross profit percentage, inventory turnover and days in

inventory to evaluate a business

What are retailing operations?

Retailing consists of buying and selling goods rather than

services

Retailers have some new balance sheet and income statement

items, for example Inventory, Sales revenue, and Cost of sales

The operating cycle of a retailing business begins when the

business purchases inventory from a vendor. It then sells the
inventory to a customer. Finally, the business collects cash from
customers

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What are retailing operations?

Goods and services tax (GST)

GST is a tax levied on the supply of goods and services

The tax is a flat percentage charge

Each firm registered for GST collects tax on the goods and
services it supplies and pays tax on the goods and services it
buys

The firm then deducts the tax it pays on purchases from the tax
it charges on sales and pays the balance to the Australian
Taxation Office

Inventory systems: Perpetual and periodic

The periodic inventory system is normally used for relatively

inexpensive goods

Goods are counted periodically to determine quantity

The perpetual inventory system keeps a running

computerised record of inventory

The number of inventory units and the dollar amounts are

perpetually (constantly) updated

It records units purchased and cost amount, units sold and sales
and cost amounts, and the quantity of inventory on hand and its
cost

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Accounting for inventory in the perpetual system

Accounting for inventory in the perpetual system

The inventory account is increased with each purchase

The vendor submits an invoice for payment

The inventory account is used for goods purchased

The method of payment is credited

Date

Account title

Dr

Jul 3

Inventory (770/1.1) (A+)

700

GST clearing (770/11) (A+)

70

Accounts payable (L+)

Cr

770

Purchased inventory on credit.

Accounting for inventory in the perpetual system

Many businesses offer customers a settlement discount for

early payment

RCAs credit terms of 3/15, NET 30 DAYS mean that Smart

Touch can deduct 3% from the total bill (excluding freight
charges, if any) if the business pays within 15 days of the
invoice date
Date

Account title

Dr

Jul 15

Accounts payable (L)

770

Cr

Cash ($770 0.97) (A)

746.90

Inventory ($7700.0310/11)
(A)

21

GST clearing ($7700.031/11)

(A/L+)

2.10

Paid within discount period.

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Accounting for inventory in the perpetual system

Businesses allow customers to return goods that are defective,

damaged or otherwise unsuitable purchase returns

The seller may also deduct an allowance from the amount the
buyer owes purchase allowances
Date

Account title

Dr

Jul 4

Accounts payable (L)

110

Cr

Inventory (110/1.1) (A+)

100

GST clearing (110/11) (A/L+)

10

Returned inventory to seller.

Accounting for inventory in the perpetual system

The purchase agreement specifies FOB (free on board) terms

to determine when title to the good transfers to the purchaser
and who pays the freight

FOB delivery point means the buyer takes ownership (title) to

the goods at the delivery point

FOB destination means the buyer takes ownership (title) to

the goods at the delivery destination point

Freight in is the transportation cost to ship goods into the

purchasers warehouse

Freight out is the transportation cost to ship goods out of the

warehouse and to the customer

Sale of inventory

After a business buys inventory, the next step is to sell the

goods

The amount a business earns from selling inventory is called

Sales revenue (Sales)

At the time of the sale, two entries must be recorded in the

perpetual system: one entry records the sale and the cash (or
receivable) at the time of the sale; the second entry records
Cost of sales (debit the expense) and reduces the Inventory
(credit the asset)

Cost of sales (COS) is the cost of inventory that has been sold
to customers

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Sale of inventory

Sale of inventory: Cash sale

Date

Account title

Dr

Jul 9

Cash (A+)

3300

Cr

Sales revenue (3 300/1.1) (R+)

3000

GST clearing (3 300/11) (A/L+)

300

Cash sale.
Date

Account title

Dr

Jul 9

Cost of sales (E+)

1900

Inventory (A)

Cr
1900

Recorded the cost of goods sold.

Sale of inventory: Credit sale

Date

Account title

Dr

Jul 11

Accounts receivable (A+)

5500

Cr

Sales revenue (5 500/1.1) (R+)

5000

GST clearing (5 500/11) (A/L+)

500

Sale on credit.
Jul 11

Cost of sales (E+)

2900

Inventory (A) 2 900

2900

Recorded the cost of sales.

Date

Account title

Dr

Jul 19

Cash (A+)

5500

Accounts receivable (A)

Cr
5500

Collection on account.

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Sale of inventory

Sales returns and allowances and sales settlement discounts

decrease the net amount of revenue earned on sales

Sales returns and allowances and Sales discounts are contra

accounts to Sales revenue

Net sales
revenue

Sales
revenue

Sales
returns
and
allowances

Sales
discounts

Sale of inventory: Sales returns

Date

Account title

Dr

Jul 12

Sales returns and allowances

(660/1.1) (CR+)

600

GST clearing (660/11) (A+/L)

60

Accounts receivable (A)

Cr

660

Received returned goods.

Date

Account title

Dr

Jul 12

Inventory (A+)

400

Cost of sales (E)

Cr
400

Placed goods back in inventory.

Sale of inventory: Sales allowances

Date

Account title

Dr

Jul 15

Sales returns and allowances

(110/1.1) (CR+)

100

GST clearing (110/11) (A+/L)

10

Accounts receivable (A)

Cr

110

Granted a sales allowance for

damaged goods.

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Sale of inventory: Sales discounts

Date

Account title

Dr

Jul 17

Cash ($4 400 0.98) (A+)

4312

Sales discounts ($4 400 0.02

10/11) (CR+)

80

GST clearing ($4 400 0.02

1/11) (A+/L)

Accounts receivable (A) 4 400

Cr

4400

Cash collection within the

discount period.
Date

Account title

Dr

Jul 28

Cash ($7 150 $4 400) (A+)

2750

Accounts receivable (A)

Cr
2750

Cash collection after the discount

period.

Sales revenue, cost of sales and gross profit

Net sales
revenue
(abbreviated
as Sales)

Gross profit
Cost of sales

(same as
Gross
margin)

Adjusting inventory based on a physical count

The Inventory account should stay current at all times in a

perpetual inventory system

The actual amount of inventory on hand may differ from what

the books show

For this reason, businesses take a physical count of inventory at

least once a year

The business then adjusts the Inventory account based on the

physical count

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Closing the accounts of a retailer

Step 1: Make the revenue and contra revenue accounts equal

zero via the Income summary

Step 2: Make expense accounts equal zero via the Income

summary account

Step 3: Make the Income summary account equal zero via the
Capital account

Step 4: Make the Drawings account equal zero via the Capital
account

Preparing a retailers financial statements

AASB 101, Presentation of Financial Statements, refers to two

different income statement formats based upon the method
used for analysing expenses

The by nature of expenses method begins by showing sales

and other revenues and then deducts expenses analysed into
categories such as employee benefits (for example, wages), the
cost of depreciation and advertising

The alternative function of expenses method begins with sales

but then deducts cost of sales to show the gross profit, adds
other revenues and classifies the remaining operating expenses
into categories such as distribution, administration, marketing
and finance

Under both alternatives, revenues and finance costs must be

shown separately on the face of the income statement

Three ratios for decision making

The gross profit percentage is one of the most carefully

watched measures of profitability.

Gross profit percentage = Gross profit / Net sales revenue

Inventory turnover measures how rapidly inventory is sold

Inventory turnover = Cost of sales / Average inventory

Days in inventory ratio measures the average number of days

inventory is held by the business

Days in inventory = 365 days / Inventory turnover ratio

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Cost of Sales Periodic Inventory System

In the periodic inventory system, cost of sales(COS or COGS)

must be calculated at the end of the accounting period after a
physical stock take is conducted.

The COS is calculated as follows:

Beginning inventory + Net purchases & freight in = Cost of goods

available for sale
Cost of goods available for sale closing inventory = COGS

Summary:

Retailers have some new balance sheet and income statement

items, for example Inventory, Sales revenue, and Cost of sales

GST is a tax levied on the supply of goods and services

The perpetual inventory system keeps a running computerised

record of inventory

It records units purchased and cost amount, units sold and sales
and cost amounts, and the quantity of inventory on hand and its
cost

The actual amount of inventory on hand may differ from what

the books show. For this reason, businesses take a physical
count of inventory at least once a year