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A merchandising company earns profits by buying and selling goods. Merchandise represents
goods or items intended for sale by a merchandiser in the normal course of business operations
Sales
Invoice is a document prepared by the seller of the merchandise. The seller calls it a sales
invoice. A copy is given to the buyer of the merchandise and it is called purchase invoice.
Net sales
The largest source of revenue for a merchandiser is sales. Usually the largest expense for a
merchandiser is cost of goods sold, also known as cost of sales. Sales can be reduced by sales
discounts and sales returns. Sales, less sales discounts and sales returns, are called net sales. The
difference between net sales and cost of goods sold is gross profit. Gross profit is often called
gross margin.
Trade Discount
Catalog/List prices is where the goods are listed with their prices. A trade discount is a
percentage reduction to the published list price which is granted to customers who buys
frequently and in large quantities.
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Purchase returns CR This account is a contra-expense account that tracks returns or
and allowances allowances for purchase merchandise.
Freight costs
Freight terms are important. FOB or Free on Board determines who pays for transportation and
when title passes.
FOB Shipping Point: legal title to the goods passes to the BUYER when the goods are
shipped. The BUYER shoulder all the transportation cost. BUYER receives title to goods
at the shipping point.
FOB Destination: The SELLER shoulders all the transportation costs from the point of
shipment up to the point of destination.
Discounts for prompt payment cannot be taken on freight.
Freight prepaid- when the SELLER pays the transportation costs at the time of shipment.
Freight collect- when the BUYER pays the transportation cost upon the receipt of the
goods at the place of destination.
Sales of Merchandise: Two entries are recorded: one for the sale and another for the cost of the
goods sold.
Cr. Sales
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Dr. Cost of Goods Sold (COGS)
Dr. Cash
Sales returns from customers. Two entries are recorded: the sales return and the receipt of the
goods from the customer.
Cr. COGS
Dr. COGS
Closing Entries
Closing entries were covered in ACCT 100. See page 165 for a review of closing entries.
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A review of the Multiple-Step Income Statement
Sales
=Gross Profit
Operating Expenses:
The acid-test ratio is a stricter, more conservative version of the current ratio. The formula for the
acid-test ratio follows.
Acid Test Ratio = Cash and cash equivalents + Short Term Investments + A/R
Current Liabilities
The gross margin ratio calculates the gross profit earned on each dollar of sales. The formula for
the gross margin ratio is below.
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Gross Margin Ratio = Gross profit (Net Sales – COGS)
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Net Sales