1. 2. 3. 4. = $ 5,000 + + + = $14,000 = – = $14,000 – = $7,500 40 25 (33) 32 Less creditors' payment terms
Financing period Chapter 5, SE 3.
Days to sell inventory
Add days to collect for the sale Chapter 5, SE 2.
Financial ratios computed d
c
THE OPERATING CYCLE AND
MERCHANDISING OPERATIONS
Chapter 5, SE 1.Working Capital Current Assets $6,500 Current Assets $2,000 $1,000 $6,000 a b $14,000 = $6,500 Current Liabilities Current Liabilities
Current Ratio = Current Assets = 2.15
252
× 2% – = × = – = 8/10 970 8/3 105 Bal.** 970 8/10 970 8/3 105 Bal. 105 1,150 1,255 Bal. 105 1,150 8/7 180 1,150 180 970 * **
Less 40 percent trade discount
Net cost of tooling machine
1,150 List price
Cost of tooling machine Dealer price ) Shipping cost $ 7,900 144 $ 7,756 8/7 180 $7,200 Less sales discount (
8/2
$1,150 – $180 = $970
The balance of Cash is a credit because there are no data about the beginning balance and only one entry has been posted to the credit side of the account. Merchandise Inventory
$2,075 $41.50 $425
T accounts set up and entries posted
$2,033.50 $2,500 $2,075 $2,075 Merchandise value: Discount: Payment: Cash $41.50 Chapter 5, SE 6.
Accounts Payable Freight-In Chapter 5, SE 5. 2% Bal. 8/2 $12,000 4,800 $ 7,200 700 * 253
8/10 970 8/3 105 Bal.** 970 8/10 970 8/3 105 1,150 1,255 Bal. 105 1,150 8/7 180 1,150 Bal. 180 * ** 5/10 1,455 5/3 158 Bal.** 1,455 5/10 1,455 5/3 158 Bal. 158 1,725 1,883 Bal. 158 1,725 5/7 270 1,725 270 1,455 * ** $1,725 – $270 = $1,455
The balance of Cash is a credit because there are no data about the beginning balance and only one entry has been posted to the credit side of the account. Merchandise Inventory
Bal.
5/2
Chapter 5, SE 8.
Accounts Payable Freight-In T accounts set up and entries posted
Cash
5/7 270 5/2 1,725
Bal.
8/2
The balance of Cash is a credit because there are no data about the beginning balance and only one entry has been posted to the credit side of the account.
Purchases
T accounts set up and entries posted
Bal.
$1,150 – $180 = $970
Cash Accounts Payable Freight-In
Purchases Returns and Allowances 8/7 180 8/2 1,150 105 * * 254
5/10 1,455 158 Bal.** 1,455 5/10 1,455 5/3 158 1,725 1,883 Bal. 158 1,725 5/7 270 1,725 Bal. 270 * ** October 31, 2011 50,600 $282,900 10,350 $272,550 13,800 Cost of goods sold
Merchandise inventory, September 30, 2011 Purchases
Less purchases returns and allowances Net purchases
Freight-in
Net cost of purchases
$273,700 Cost of goods available for sale
Less merchandise inventory, Cost of goods sold
286,350 $324,300 $ 37,950 Freight-In Chapter 5, SE 10. Purchases: $282,900 ($273,700 + $50,600 – $13,800 + $10,350 – $37,950) 5/7 270 5/2 1,725 5/3 158 Bal. Accounts Payable T accounts set up and entries posted
The balance of Cash is a credit because there are no data about the beginning Cash
balance and only one entry has been posted to the credit side of the account. and Allowances Bal. 5/2 Purchases Returns $1,725 – $270 = $1,455 Purchases * 255
8/4 2,520 8/5 231 Bal. 2,520 9/3 1,785 2,520 2,520 Bal. — 8/5 231 8/9 735 Bal. 735 * f d g c 1,554 Cash Bal. $2,520 – $735 = $1,785 5. 6. 7. e a b 1. 2. 3. 4. Chapter 5, SE 12. 8/4 2,520 8/9 735 231 Bal. 1,785 Sales Returns and Allowances 9/3
Accounts Receivable Delivery Expense Sales
T accounts set up and entries posted
d b a c Chapter 5, SE 13. 1. 2. 3. 4. * 256
1. 2. 3. 4. 1. 2. 3. 4. 1. 2. 3. 4. 5. 6.
the inventory as shown in the accounting records.
d a b c d a
pay its suppliers.
Chapter 5, E 3.
Management has the ultimate responsibility for safeguarding a company’s assets with a system of internal control.
for a very short time, if its sales are mostly for cash, or if it has long terms to Because the exchange rate for the dollar is declining as it relates to the euro, the dollar can buy more euros. Therefore, you would want the eventual payment to be made in dollars.
point, the merchandise would belong to you when it left the shipper and would be your loss.
It is important because until there is a written record of the cash, there is no The balance would be wrong if an error were made in updating the account or if merchandise had been lost or stolen.
dise would be the responsibility of the shipper. If the terms were FOB shipping
involved and because there is a greater risk of theft.
having made a purchase without receiving a receipt.
is a greater risk of human error in recording the large number of transactions
accountability. This is why some stores offer a reward to customers who report Under the perpetual inventory system, a physical inventory is required to verify Merchandise Inventory would be assigned a higher level of risk because there Under the periodic inventory system, a physical inventory is needed to deter-mine the cost of goods sold and the resulting amount of ending inventory. Chapter 5, E 2.
Yes, a company can have a negative financing period if its merchandise is held
You would want the terms to be FOB destination because the loss of
257
€150,000 × $1.00 = €150,000 × $1.25 = $187,500 – $150,000 = $ 1,200 10,080 20,800 8,160 20,320 320 280 $61,160 $12,000 13,280 8,000 680 1,000 600 35,560 $25,600 $61,160 $35,560 $5,000 1,500 $3,500 — $3,500 70 $3,430 Chapter 5, E 6. List price
Less 30% trade discount Dealer price
Shipping cost Cost of pool
Less sales discount ($3,500 × 2%) Net cost of pool
=
Current Ratio = =
Merchandise Inventory Prepaid Insurance Supplies
2. Current ratio computed Unearned Revenue Total Current Liabilities Salaries Payable
Current Assets Cash
Marketable Securities
Current Liabilities
Notes Receivable (90 days) Accounts Receivable
Notes Payable (90 days) Accounts Payable
Current Portion of Long-Term Debt Property Taxes Payable
Chapter 5, E 5.
1. Working capital computed
Current Liabilities Cost of machine in dollars:
Amount of payment: Exchange loss:
Current Assets Total Current Assets
Working Capital $37,500 1.72 $150,000 Date of purchase: Date of payment: $187,500 258
1 2,000 2,000 3 800 800 10 1,176 24 1,200 $2,000 – $800 = $1,200 × 2% = $1,200 – $24 = 11 3,200 3,200 31 3,200 3,200 + $3,200 = $1,176 $4,376
terms 2/10, n/30, FOB shipping point Sales
Sold merchandise on credit to Sun Company,
The total amount received from Sun Company (debits to the Cash account): Receivable:
$1,200 $24
Received payment for amount due from Sun Company for the sale of March 11
sale, less the return and discount Accounts Received payment from Sun Company for the
$1,176 Discount: Payment: credit Accounts Receivable Cash Sales Discounts Accounts Receivable
Accepted a return from Sun Company for full Sales Returns and Allowances
Accounts Receivable
Sold merchandise on credit to Sun Company, terms 2/10, n/30, FOB shipping point
Cash
Accounts Receivable Mar. Accounts Receivable
Sales
259
2 2,000 2,000 6 250 250 11 1,750 1,750 $2,000 – $250 = 14 2,250 2,250 31 2,250 2,250 + $2,250 = Merchandise Inventory Accounts Payable Accounts Payable
for full credit
Merchandise Inventory
Purchased merchandise on credit from Lucas Company, terms n/20, FOB destination, invoice
Paid Lucas Company for purchase of July 2 less
$1,750 Accounts Payable Accounts Payable: Cash July dated July 1
Returned some merchandise to Lucas Company
return
$4,000
Purchased merchandise on credit from Lucas Company, terms n/20, FOB destination, invoice dated July 12
The total amount paid to Lucas Company (credits to the Cash account): Paid amount owed Lucas Company for purchase
Accounts Payable of July 14 Cash $1,750 Merchandise Inventory Accounts Payable 260
$249,000 11,750 $237,250 149,350 $ 87,900 $21,500 43,500 65,000 $ 22,900 6,000 $ 16,900 + $7,350 =
*Cost of goods sold includes freight-in: Gross margin
Income Statement
Selling expenses Net sales
Less sales returns and allowances
For the Year Ended December 31, 2011
$142,000 $149,350
Net sales Sales
Cost of goods sold* Operating expenses
General and administrative expenses Total operating expenses
Income before income taxes Income taxes
Net income
Parties, Etc.
261
e. 1,000 a. 5,000 b. 270 d. 400 g. 5,200 d. 5,200 Bal. 670 h. 1,800 Bal.** 13,000 13,000 Bal. — 5,000 2,800 4,800 12,600 11,600 * = ** $1,800 12,270 270 5,000 5,200 1,800 Merchandise Inventory e. 5,000 h.* b. g. Bal. d. 1,000 1,000
balance and entries have been posted only to the credit side of the account. The balance of Cash is a credit because there are no data about the beginning
$2,800 – $1,000
2,800 c.
T accounts set up and entries posted Cash
f. f.
c. a.
Accounts Payable Freight-In
262
2,000 6/15 2,600 2,000 Bal. 2,600 6/20 600 6/25 2,000 Bal. 600 2,600 2,600 — 350 6/15 1,500 6/15 1,500 6/20 350 350 1,500 1,500 350 Bal.** 1,150 Bal. 1,150 * ** Bal. 2,600 6/20 the account. $2,600 – $600 = $2,000
The balance of Merchandise Inventory is a credit because there are no data about the beginning balance and a larger amount has been posted to the credit side of
600
Sales T accounts set up and entries posted
Cost of Goods Sold 6/20
Accounts Receivable and Allowances
6/15 Sales Returns Cash Merchandise Inventory 6/25 Bal. * 263
$154,500 7,600 $146,900 $14,000 $57,400 3,500 $53,900 2,800 56,700 $70,700 10,500 60,200 $ 86,700 $28,200 18,600 46,800 $ 39,900 9,000 $ 30,900 Net sales
General and administrative expenses Cost of goods sold
Less sales returns and allowances
Merchandise inventory, December 31, 2010 Less purchases returns and allowances
Less merchandise inventory, December 31, 2011
Total operating expenses Net purchases
Gross margin
Operating expenses Cost of goods sold Freight-in
Net cost of purchases
Cost of goods available for sale
Net income Income taxes
Selling expenses Purchases
Handy General Store
Sales Net sales
Income before income taxes
Income Statement
For the Year Ended December 31, 2011
264
$349 (p) $336 (h) $286 24 19 20 (a) 325 (q) 317 266 (b) 33 (r) 42 (i) 38 192 169 139 (c) 31 28 (j) 17 28 (s) 29 22 189 170 (k) 144 (d) 222 212 182 39 33 (l) 42 183 (t) 179 140 (e) 142 138 (m) 126 91 (u) 78 66 (f) 39 50 (n) 33 130 128 99 (g) 12 (v) 10 (o) 27 3 2 5 9 (w) 8 22
Cost of goods available for sale Net sales
Merchandise inventory, beginning Purchases
Income taxes
Net cost of purchases
2011
Net income
Income before income taxes
General and administrative expenses Total operating expenses
Gross margin Selling expenses
2009
Merchandise inventory, ending Cost of goods sold
Freight-in (in thousands) Sales
Sales returns and allowances
Purchases returns and allowances
2010
265
b. 270 e. 1,000 a. 5,000 a. 5,000 f. 5,000 f. 5,000 c. 2,800 c. 2,800 d. 4,800 h.* 1,800 h. 1,800 Bal. ##### Bal.** 12,270 13,000 13,000 Bal. — b. 270 d. 400 Bal. 670 e. 1,000 Bal. 1,000 *
** The balance of Cash is a credit because there are no data about the beginning balance and entries have been posted only to the credit side of the account.
and Allowances Freight-In 5,200 d. 5,200
g. g.
Accounts Payable Purchases
Cash
T accounts set up and entries posted
Purchases Returns
$2,800 – $1,000 = $1,800 5,200
266
2,000 6/15 2,600 2,000 Bal. 2,600 6/20 600 6/25 2,000 Bal. 600 2,600 2,600 Bal. — *
T accounts set up and entries posted
6/25 $2,600 – $600 = $2,000 Sales Accounts Receivable Cash 6/20 Bal. 2,600 6/15 600
Sales Returns and Allowances *
267
1. 2. 3. 4. 1. 2. 3. 4. 1. 2. 3. 4. 5. g b, c g e a, c, f Chapter 5, E 18. d a c b
available in the store and pocketing the cash for the coupons. Businesses often have extra coupons in the store for customers who request them.
The 30 percent increase represents about one additional employee on the pay-ger has either added an unauthorized employee to the payroll or added a
ficti-end probably means that to meet sales goals, the sales staff inflated the pre-approval. Those goods were subsequently returned for credit in the first two months of 2011.
All other things being equal, a decrease in both gross margin and ending in-roll (after accounting for the raises). It is possible that the branch office
mana-The cashier in question may be turning in and ringing up discount coupons ventory probably indicates the theft or pilferage of inventory by customers or employees.
vious year's sales by shipping unordered merchandise or by sending goods on tious employee to the payroll and then cashed the payroll checks himself or The large increase in sales returns and allowances immediately following
year-Chapter 5, E 17. herself.
268
+ = ) $ 26,870 161,730 $ 30,870 4,000 127,400 $192,600 $127,400 Leonid's Delivery, Inc.
Income Statement
For the Year Ended August 31, 2011
$338,000 18,000 $320,000 Net income 2,350 1,600 $121,710 $65,650 48,200 5,360 2,500 Less sales returns and allowances
Net sales
$25,750 Store salaries expense
Depreciation expense—store equipment Selling expenses
Total selling expenses
General and administrative expenses Rent expense
Insurance expense Office supplies expense
Depreciation expense—office equipment Total general and administrative
Net sales Sales Utilities expense 40,020 4,800 2,400 3,120 Advertising expense
Store supplies expense Cost of goods sold*
Gross margin
Operating expenses
Income before income taxes Income taxes
$122,800 Multistep income statement prepared
1.
Office salaries expense
Total operating expenses
*Cost of goods sold includes freight-in ( expenses
$4,600
269
(3) in relation to other information.
net sales of $320,000. This is a profit margin of 8.4 percent.
return on equity. An analyst also would want to examine the balance sheet in rela-are $161,730, or 50.5 percent of net sales. Net income can be improved by
increas-User Insight: Income statement discussed
First, overall, the statement shows net income of $26,870, which was earned on
ing the gross margin and/or by decreasing the operating expenses.
Leonids Delivery, Inc., can be examined (1) as a whole, (2) in components, and 2.
Leonid's Delivery, Inc., to prior years and to other companies of similar size within the same industry for the same period of time.
tion to the income statement.
When possible, an analysis would also include comparing the ratios above for This question is meant to link the income statements in this chapter to the
finan-Third, the net income, $26,870, can be compared with the total assets of the busi-ness to compute return on assets and with total stockholders' equity to compute cial statement ratios prepared in the previous chapter. The income statement for
Second, the components of gross margin and operating expenses can be examined. The gross margin is $192,600, or 60.2 percent of net sales; the operating expenses
270
1 1,050 1,050 1 630 630 3 1,900 1,900 5 145 145 8 1,700 100 1,800 12 300 300 15 600 600 15 360 360 1. Transactions recorded
Company, terms n/30, FOB shipping point Merchandise Inventory
FOB shipping point
Sold merchandise to Tina Lands, terms n/30,
Accounts Receivable Merchandise Inventory
from Livomax Company
Returned some of merchandise purchased Company, terms n/30, FOB shipping point; freight paid by supplier
Freight-In
To transfer cost of merchandise sold to Accounts Payable
Merchandise Inventory Accounts Payable
Purchased merchandise from Arbor Supply Paid shipping charges to Team Freight
Cost of Goods Sold account Cash
Accounts Payable
Purchased merchandise from Livomax Freight-In
Sales
Cost of Goods Sold
Merchandise Inventory 2011
July Accounts Receivable
To transfer cost of merchandise sold to Cost of Goods Sold account
Sales
Sold merchandise to John Nuzzo, terms n/30, FOB shipping point
Cost of Goods Sold
Merchandise Inventory
271
17 500 500 17 300 300 18 100 100 18 60 60 24 1,600 1,600 $1,900 – $300 = $1,600 25 950 950 $1,050 – $100 = $950
2. User Insight: Net sales discussed
Net sales reflects gross sales adjusted for any sales discounts, sales returns, or allowances granted the buyer. When companies simply show "sales," it may mean that they have granted no discounts, returns, or allowances, or it may mean that any of these items granted were of an immaterial amount. In effect, "net sales" and "sales" are equivalent.
Accounts Receivable July Cash
Received payment on account from Tina Lands Cash
Merchandise Inventory account Cost of Goods Sold
Company Cash
To transfer cost of merchandise returned to Accounts Payable
Made payment on account to Livomax 2011
Sales
To transfer cost of merchandise sold to Cost Sold merchandise for cash
Merchandise Inventory
Accepted return of merchandise for full credit Cost of Goods Sold
of Goods Sold account Merchandise Inventory
from Tina Lands Accounts Receivable
Sales Returns and Allowances
272
$220,456 9,125 $211,331 $ 40,611 $110,593 15,119 $ 95,474 5,039 100,513 $141,124 38,332 102,792 $108,539 $ 52,775 10,100 232 900 $ 64,007 $ 13,250 7,500 1,100 9,380 407 925 32,562 96,569 $ 11,970 2,500 $ 9,470 Advertising expense Net income Income taxes
Office supplies expense
Depreciation expense—office equipment Total general and administrative expenses September 30, 2011
September 30, 2010
Store salaries expense Selling expenses
Merchandise inventory,
Less merchandise inventory, Purchases
Less purchases returns and allowances Net purchases
1. Income statement prepared
Gross margin
Total operating expenses Income before income taxes
Depreciation expense—store equipment Store supplies expense
Utilities expense
Office salaries expense
General and administrative expenses Total selling expenses
Cost of goods sold Cost of goods sold
Net sales
Insurance expense Rent expense
Hill Sporting Equipment, Inc.
Less sales returns and allowances
Income Statement
Sales Net sales
For the Year Ended September 30, 2011
Freight-in
Net cost of purchases
Operating expenses
Cost of goods available for sale
273
Third, the net income, $9,470, can be compared with the total assets of the busi-statements. Hill Sporting Equipment, Inc.'s income statement can be examined First, the statement shows the net income of Hill Sporting Equipment, Inc. The
increasing the gross margin and/or by decreasing the operating expenses.
within the same industry for the same period of time.
ness to compute return on assets and with total stockholders' equity to compute Second, the components of gross margin and operating expenses can be
exam-Sporting Equipment, Inc., to prior years and to other companies of similar size return on equity. Therefore, an analyst also would want to examine the balance sheet in relation to the income statement.
penses are $96,569, or 45.7 percent of net sales. Net income can be improved by 2. User Insight: Income statement discussed
This question is meant to get the students thinking about how to analyze financial
ined. The gross margin is $108,539, or 51.4 percent of net sales; the operating ex-shop earned $9,470 on net sales of $211,331. This is a profit margin of 4.5 percent. (1) as a whole, (2) in components, and (3) in relation to other information.
When possible, an analysis would also include comparing the ratios above for Hill
274
1 1,050 1,050 3 1,900 1,900 5 145 145 8 1,700 100 1,800 12 300 300 15 600 600 17 500 500 18 100 100 1. Transactions recorded Accounts Receivable credit from Tina Lands
Accepted return of merchandise for full Sold merchandise to John Nuzzo, terms n/30, FOB shipping point
Sales Returns and Allowances Sales
Purchased merchandise from Arbor Supply
Returned some of merchandise purchased Purchase Returns and Allowances
Accounts Receivable
from Livomax Company Accounts Payable Purchases Accounts Payable Freight-In Cash Accounts Payable Accounts Receivable
Sold merchandise to Tina Lands, terms Sales
Paid shipping charges to Team Freight Company, terms n/30, FOB shipping point n/30, FOB shipping point
July
Freight-In Purchases
Purchased merchandise from Livomax 2011
Sold merchandise for cash Sales
Cash
Company, terms n/30, FOB shipping point; freight paid by supplier
275
24 1,600 1,600 $1,900 – $300 = $1,600 25 950 950 $1,050 – $100 = $950 2011 Cash Cash
Made payment on account to Livomax
Accounts Receivable Accounts Payable
Company July
Net sales reflects gross sales adjusted for any sales discounts, sales returns, or allowances granted the buyer. When companies simply show "sales," it may mean that they have granted no discounts, returns, or allowances, or it may mean that any of these items granted were of an immaterial amount. In effect, "net sales" and "sales" are equivalent.
Tina Lands
Received payment on account from
2. User Insight: Net sales discussed
276
1. 2. 3. 4. 5. 6. 7. 8. 9.
clerk authorizes purchases of supplies based on purchase requisitions received from the supplies clerk. This is an improvement over the old system in that all releases of supplies and purchases of supplies have appropriate approval. Su-lowest price for supplies.
Periodic independent verification This control procedure is accomplished by
having the warehouse manager take a physical inventory each month and match supplies storeroom. This new and essential control procedure protects the sup-supplies clerk, purchase orders by the purchasing clerk, and receiving reports by the supplies clerk are new documents that establish controls over supplies.
plies from waste and theft and means that the supplies clerk can be held account-able for the inventory of supplies.
Physical controls Physical controls are established through the designation of a
tem. First, the supplies clerk is routinely authorized to release a predetermined amount of supplies to each supervisor based on the job. Second, the purchasing
Recording transactions There is no major difference between the old and new
These documents are an improvement over the old system in that forms now document the responsibilities of each individual. New inventory records are kept by the accounting department. With these records, the inventory on hand systems regarding the recording of transactions. In both cases, the accounting department records the purchase of supplies. Additional inventory records are pervisors are discouraged from wasting supplies, and the company is paying the
Documents and records Several new documents and records were established
by the new system. Requisitions by supervisors, purchase requisitions by the
using too many supplies or stealing them.
can be verified by taking a physical inventory. This discourages employees from maintained, however, as explained in the next section.
Authorization Two major points of authorization have been put into the new
sys-1. Control activities identified
2. User Insight: New control activities explained e d c, f a c, d, f a, c, f a, f b, c, f c 277
the employees' understanding of and willingness to carry out their new roles. Some examples: The supplies clerk must be careful to release only the amount of supplies authorized for each job. The warehouse manager must take the physical tem. Many employees have new duties with more rigorous procedures to follow and more forms to complete than before. The case does not specify what steps, if any, were taken to train the employees in the new procedures and to motivate them to accept these procedures. The success of the new system will depend on including the inventory records, are maintained by the accounting department.
conscious effort to find the best prices for supplies. And access to the supplies storeroom must be limited to the supplies clerk. If anybody can walk into the store-room, the control is lost.
inventory each month and do so accurately. The purchasing clerk must make a The independent verification is conducted by the warehouse supervisor.
Sound personnel practices This is an area of apparent weakness in the new
sys-and of the purchasing clerk, who authorizes purchases. The accounting records, it against the records maintained by the accounting department. This is a major improvement over the old system because employees are motivated not to waste
sibility of management, which sets the amount to be released to the supervisors,
Separation of duties The new system represents a good example of the
sepa-ration of duties. The supervisors and the supplies clerk, who have access to the supplies, can obtain them only through proper authorization as documented or steal the supplies and because losses can be uncovered quickly.
by the requisitions and the purchase orders. Authorization here is the
respon-278
$870,824 25,500 $845,324 462,526 $382,798 $216,700 36,400 3,328 3,600 $260,028 $ 53,000 28,000 5,600 18,320 3,628 3,700 112,248 372,276 $ 10,522 5,000 $ 5,522 Cost of goods sold*
Sales
Joseph's Video Store, Inc. For the Year Ended June 30, 2011 Net sales
1. Income statement prepared
Operating expenses Selling expenses
Store supplies expense
Office supplies expense Total selling expenses
Income taxes
*Cost of goods sold includes freight-in ($442,370 + $20,156 = $462,526) Total general and administrative expenses
Office salaries expense Rent expense
Insurance expense Utilities expense
Net income
Total operating expenses
General and administrative expenses Depreciation expense—store equipment
Income before income taxes Gross margin
Advertising expense Net sales
Store salaries expense
Depreciation expense—office equipment Income Statement
Less sales returns and allowances
279
penses are $372,276, or 44.0 percent of net sales. Net income can be improved by 2. User Insight: Income statement discussed
cial statement ratios prepared in the previous chapter. The income statement for and (3) in relation to other information.
This question is meant to link the income statements in this chapter to the
finan-to the income statement.
return on equity. An analyst would want to examine the balance sheet in relation First, overall, the statement shows net income of $5,522, which was earned on net
increasing the gross margin and/or by decreasing the operating expenses.
When possible, an analysis would also include comparing the ratios above for Joseph's Video Store, Inc., to prior years and to other companies of similar size within the same industry for the same period of time.
Second, the components of gross margin and operating expenses can be exam-ined. The gross margin is $382,798, or 45.3 percent of net sales. The operating
ex-Third, the net income, $5,522, can be compared with the total assets of the busi-ness to compute return on assets and with total stockholders' equity to compute sales of $845,324. This is a profit margin of only 0.7 percent.
Joseph's Video Store, Inc., can be examined (1) as a whole, (2) in components,
280
7 3,000 3,000 7 1,800 1,800 8 6,000 6,000 9 254 254 10 9,000 600 9,600 14 2,400 2,400 14 1,440 1,440 14 600 600 1. Transactions recorded
point; freight paid by supplier point
Freight-In
n/30, FOB shipping point Accounts Receivable
Accounts Payable
Returned damaged merchandise to Lima Company, terms n/30, FOB shipping Purchased merchandise from Maria's Cost of Goods Sold account
Freight-In Oct.
2011
Cost of Goods Sold
Merchandise Inventory n/30, FOB shipping point
Accounts Payable Accounts Receivable
Sold merchandise to Ron Moore, terms Sales
To transfer cost of merchandise sold to
Paid shipping charges to Warta Company for October 8 purchase
Accounts Payable Merchandise Inventory
Cash
Purchased merchandise from Lima Company, terms n/30, FOB shipping
Merchandise Inventory Company for credit Merchandise Inventory
Sales
Sold merchandise to Kate Lang, terms Cost of Goods Sold
Cost of Goods Sold account Merchandise Inventory
To transfer cost of merchandise sold to
281
17 3,000 3,000 19 1,800 1,800 19 1,080 1,080 20 9,600 9,600 21 5,400 5,400 $6,000 – $600 = $5,400 24 200 200 24 120 120
from gross purchases.
Cash rebates should not be recorded as revenue because doing so overstates rev-enues. (Some companies have gotten into trouble for following this practice.) Cash rebates are properly treated as purchases discounts or allowances and deducted
To transfer cost of merchandise returned to Accepted return from Kate Lang
Cost of Goods Sold account
To transfer cost of merchandise sold to
Company for purchase of October 10 Sold merchandise for cash
Cash Sales
Merchandise Inventory
2. User Insight: Cash rebates discussed 2011
Accounts Receivable
Received payment on account from Ron
Cost of Goods Sold
Made payment on account to Maria's Accounts Payable
Cash
Company for purchase of October 8, net of Cash
Made payment on account to Lima Accounts Payable
Sales Returns and Allowances Accounts Receivable
Oct. Cash
Cost of Goods Sold Moore
Merchandise Inventory account Merchandise Inventory
return on October 14
282
$168,700 5,700 $163,000 $ 38,200 $70,200 2,600 $67,600 2,300 69,900 $108,100 29,400 78,700 $ 84,300 $33,125 23,800 2,880 1,050 $ 60,855 $12,875 2,400 1,560 1,300 1,075 800 20,010 80,865 $ 3,435 1,000 $ 2,435 Cost of goods sold
Cost of goods sold Net sales
Insurance expense Rent expense
Robert's Shop, Inc. Income statement prepared
Less sales returns and allowances Sales
Net sales
Gross margin
Total operating expenses Income before income taxes
Depreciation expense—store equipment Income Statement 1.
For the Year Ended March 31, 2011
Freight-in
Net cost of purchases
Operating expenses
Cost of goods available for sale
Merchandise inventory, March 31, 2010
Less merchandise inventory, March 31, 2011 Purchases
Less purchases returns and allowances Net purchases
Advertising expense Store salaries expense Selling expenses
Store supplies expense
Utilities expense
Office salaries expense
General and administrative expenses Total selling expenses
Net income Income taxes
Office supplies expense
Depreciation expense—office equipment Total general and administrative expenses
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Third, the net income, $2,435, can be compared with the total assets of the busi-Second, the components of gross margin and operating expenses can be
ex-When possible, an analysis would also include comparing the ratios above for Robert's Shop, Inc., to prior years and to other companies of similar size within the same industry for the same period of time.
ness to compute return on assets and with total stockholders' equity to compute by increasing the gross margin and/or by decreasing the operating expenses. expenses are $80,865, or 49.6 percent of net sales. Net income can be improved 2. User Insight: Income statement discussed
This question is meant to get the students thinking about how to analyze
finan-amined. The gross margin is $84,300, or 51.7 percent of net sales; the operating
return on equity. An analyst would want to examine the balance sheet in relation to the income statement.
cial statements. The income statement for Robert's Shop, Inc., can be examined First, the statement shows net income of $2,435, which was earned on net sales of $163,000. This is a profit margin of only 1.5 percent.
(1) as a whole, (2) in components, and (3) in relation to other information.
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7 3,000 3,000 8 6,000 6,000 9 254 254 10 9,000 600 9,600 14 2,400 2,400 14 600 600 17 3,000 3,000 Returned damaged merchandise to Lima
Sold merchandise to Kate Lang, terms n/30,
Company for credit FOB shipping point
Purchases Returns and Allowances freight paid by supplier
Sales Accounts Payable Accounts Receivable Purchases Accounts Payable 2011 Accounts Receivable
n/30, FOB shipping point
Sold merchandise to Ron Moore, terms
Paid freight charges to Warta Company Sales Oct. Freight-In Freight-In Cash Moore Cash Accounts Receivable Accounts Payable
Purchased merchandise from Maria's Company, terms n/30, FOB shipping point;
Received payment on account from Ron 1. Transactions recorded
Purchases
Company, terms n/30, FOB shipping point Purchased merchandise from Lima
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19 1,800 1,800 20 9,600 9,600 21 5,400 5,400 $6,000 – $600 = $5,400 24 200 200 2011 Accounts Payable Cash Sales Accounts Payable Cash October 14 Cash
Made payment on account to Lima Company Sold merchandise for cash
Oct.
Company for purchase of October 10 Made payment on account to Maria's
enues. (Some companies have gotten into trouble for following this practice.) Cash rebates are properly treated as purchases discounts or allowances and deducted from gross purchases.
2. User Insight: Cash rebates discussed
Cash rebates should not be recorded as revenue because doing so overstates rev-for purchase of October 8, net of return on
Sales Returns and Allowances Accounts Receivable
Accepted return from Kate Lang
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2. Recommended changes that would improve the system
ence of the cashier. Another person, such as the manager, should remove the tape One way of overcoming the internal control weakness over cash sales is to have
To remedy both of these weaknesses in internal contol over purchases, the receiv-with the existing assets at reasonable intervals. The comparison of the cash
regis-in a kickback scheme with a supplier.
ing report and the purchase order should go to the accounting department to be compared with the invoices before payment is authorized. In addition, prior to pay-ment, the invoice should be approved by the person who submitted the purchase requisition to ensure that he or she actually received the quantity and quality of goods requested. In this way, authorization (the purchasing agent) and custody (the receiving clerk) are separated from recordkeeping (the accounting department). the invoice is correct. It would be possible for the purchasing agent to be involved
Purchases In this case, invoices are being paid before they are compared with the
not been properly authorized or for goods that have not been received. The pur-purchase order and receiving report. An invoice could be paid for goods that have chasing agent, who has the responsibility to authorize purchases, also certifies that
from the cash register for comparison with the amount turned in to the cashier. the salesclerk take the cash drawer to the cashier and count the cash in the pres-ter tape with the cash in the cash drawer at the end of each day accomplishes this person who has custody of the assets. In this case, the salesclerk could misappro-priate funds from the cash drawer and report the sales at less than actual.
Cash sales One objective of internal control is to compare the records of assets
objective. However, the comparison should be made by someone other than the 1. Significant internal control weaknesses
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1. 2.
3.
The Perpetual Inventory System
on how well the company is doing. Centralization of the records would mean that the store managers. Perhaps this system needs to be strengthened with a better
ordered quickly, and slow-selling books can be moved to other stores or returned The operating cycle is the amount of time from the purchase of inventory until it days (70 days plus 90 days). The financing period is the time needed for financ-ing of inventory and receivables. For Amazfinanc-ing Sound Source, it is 140 days (160 days minus 20 days). Amazing Sound Source can improve its cash flow
manage-Reduce the inventory period. (Suggestions: Analyze inventory to reduce in-ventory on hand; try to get inin-ventory on consignment.)
ment in one or all of the following ways:
Reduce the receivable period. (Suggestions: Encourage customers to use is sold and payment is collected. Amazing Sound Source's operating cycle is 160
Chapter 5, C 2.
to the publisher before they have to be offered at lower prices. In addition, finan-cial statements can be prepared frequently, giving management constant feedback administer. There may be some merit to the system of relying on the judgment of
tory levels can be monitored on a day-by-day basis. Fast-selling books can be re-petual inventory system.
Note to the instructor: This case can be used for class discussion or as a writing
exercise. It is also excellent for use with small groups, with the participants being asked to develop arguments for either the periodic inventory system or the
per-training program for managers and a better system for monitoring sales within the An advantage of the periodic inventory system is that it is usually less costly to
credit cards instead of giving 90 days' credit; make arrangements with bank to provide credit to customers.)
The Periodic Inventory System
A principal advantage of the perpetual inventory system is that sales and inven-able except within each store. Sales in the book business can fluctuate unexpect-edly, and top management may not know when one store has run out of a title and
Increase the payable period. (Suggestions: Pay suppliers at last possible time instead of when invoice is received; negotiate longer payment times.)
another store has been unable to sell it. Another disadvantage of the periodic ventory system is that financial statements are prepared only when a physical in-ventory is taken (in this case, every six months).
stores. The patterns of sales in different neighborhoods do vary, and the store managers are probably the best people to monitor these trends. The disadvantage of the periodic inventory system is that little information about inventory is
avail-288
best position to evaluate their own situations. A solution to this last disadvantage is to give the managers ready access to the perpetual inventory records and let them have a say in decisions about purchases.
was before. Thus, when McDonald's prepares its financial statements in dollars, sales in Europe translate into more dollars than previously. Assume, for instance, that the company sold €12,000,000 worth of Big Macs in Europe in each of two years. Also assume that in the first year, one euro is worth $1.40 and in the second
$19,200,000 (€12,000,000 × $1.60). Sales by McDonald's in the United States are not relevant to the discussion because these sales were in dollars and therefore year, one euro is worth $1.60. In euros, sales appear to be equal from one year to
were not affected by the changes in foreign exchange rates. Chapter 5, C 3.
the next, but in dollars, sales increased from $16,800,000 ( €12,000,000 × $1.40) to A weak U.S. dollar means that one dollar may be exchanged for less than previ-ously or, conversely, that one euro is now worth more in terms of dollars than it ployees must be trained to follow procedures in recording sales, purchases, and returns and in maintaining the records. This may be much more costly than hiring and training qualified store managers. Also, the centralization of the records takes considerable autonomy away from the individual store managers, who are in the vantage of the perpetual inventory system is the cost to install and maintain it. Em-from stores where sales have been slow to those where sales are better. A
disad-Note to the instructor: Many specialty store chains, including bookstores, use a
perpetual inventory system like the one proposed for Books Unlimited. Sales are sales trends among the stores could be monitored, allowing inventory to be shifted
little or no say in the titles or other products that are stocked.
monitored at the national or regional level, and individual store managers have
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a. b. c.
d.
abled the employee to conceal the fraud. fication that the work had been done.
Separation of duties: It is likely that these expenditures were authorized by
the employee who perpetrated the fraud, thus circumventing separation of
Sound personnel practices: It is likely that sound personnel practices such
as rotation of jobs, required vacations, and bonding were violated and
en-Authorization: These expenditures were probably not authorized by a person
who would understand their implications.
Periodic independent verification: There was apparently no independent
veri-duties.
The control activities that were likely violated in this case are as follows:
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1.
2.
3.
Please let me know if you have any questions. days' payable is 19.
months.
CVS's operating cycle described
Memorandum Date:
To:
The operating cycle is the length of time from the purchase of inventory until it From:
Re:
Student's Name
CVS's Operating Cycle Today's Date
is sold and the proceeds collected. The financing period is the operating cycle less the days of credit received to pay for the inventory. The relative importance of each component of the financing period is as follows:
Instructor's Name
portant to CVS as inventory because most of the company's sales are for cash, debit card, or credit card. Its days' receivable is 21.
Purchase of inventory: Maintaining an adequate merchandise inventory is
very important to CVS's operating cycle. The company maintains about 45 days' inventory on hand at any one time.
the days' payable is very important to CVS in financing the inventory. Its In summary, the financing period for CVS is about 47 days (45 + 21 –19). CVS needs to provide inventory financing for somewhat less than two
Payments on account: Because of the number of days' inventory on hand, Cash sales and collection on account: Accounts receivable are not as
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2009 % 2009 % $98,729 100.0% $63,335 100.0% 78,349 79.4% 45,722 72.2% $20,380 20.6% $17,613 27.8% 13,942 14.1% 14,366 22.7% $ 6,438 6.5% $ 3,247 5.1% $10,343 13.2% $ 6,789 14.8%
margin than that of CVS, but has higher operating expenses that more than offset
Also, it appears that CVS manages its inventory better because of the lower per-centage of inventories to cost of sales.
Cost of sales Net sales
Total operating expenses Income from operations Inventories
Gross margin
its income from operations is higher as a percentage of net sales than Walgreens'. its advantage in gross margin. As a result, CVS is slightly more profitable because (Dollars in millions)
These companies have very comparable operations. Walgreens has a higher gross
CVS Walgreens
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$ 53,000 $ — $200,000 $271,000 15,000 20,000 $185,000 $251,000 19,000 27,000 204,000 278,000 $257,000 $278,000 32,000 53,000 $225,000 $225,000 $25,000 $25,000 25,000 50,000 $75,000 $32,000 shown by the physical inventory. If the actual inventory had been $57,000, An inventory loss of $25,000 appears to have occurred in 2011. The amount is the
$50,000. The difference between 2010 and 2011 net income can be accounted for difference between the computed inventory level of $57,000 and the actual level of
2011 Purchases
2010 1. Cost of goods sold recomputed
Less ending inventory Cost of goods sold Purchases
Less purchases allowances
Cost of goods available for sale Freight-in
Net cost of purchases Beginning inventory
the cost of goods sold for 2011 would have been $200,000 ($257,000 in cost of goods available for sale minus $57,000). Net income, therefore, would have been
2011 income before income taxes Manager's salary
Inventory loss
2010 income before income taxes as follows:
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sure that they are recorded at the time of sale; (3) establish controls over inventory the goods because sales declined by $25,000. Perry should take several actions: (1) assume a more active role in managing the original store, including being physi-2.
ventory may have been stolen by shoplifters, by the manager, or by salesclerks. The Possible reasons for the inventory loss suggested
The inventory loss could have occurred as the result of embezzlement or theft. In-manager may have failed to record sales of inventory and kept the money paid for
to prevent customers from leaving the premises without paying; and (4) conduct sur-cally present on a random schedule; (2) institute controls over cash receipts to
en-prise counts (audits) of cash and inventory.
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