hello merchandising is one of the largest and most influential industries worldwide in this video you will learn the basics about reporting merchandising operations in fact a merchandising company is a company that buys goods and then resells them generally for a higher price than they were purchased there are two types of merchandising companies retail and wholesale a retail company sells products directly to customers where a wholesale company buys items in bulk from manufacturers and resells them to retailers or other wholesalers so here the primary source of revenue is through buying and selling goods usually the operating cycle of a merchandising company is longer than that of a service company a merchandising company engages in the purchase and resale of tangible goods however server service companies primarily sell services rather than tangible goods so the purchase of merchandise inventory and its eventual sales lengthen the cycle as you can see in the figure in front of you in a service company we don't have inventory and this is where the operating cycle for merchandising company becomes longer than that of a service company here we will see how to measure income in a merchandising operation the primary source of revenues is referred to as sales revenue or sales so imagine here we're selling bottles of water and we are selling five bottles of water and the price of each bottle it's one dollar and the cost it's 50 cents so here the sales revenue it's five times one so it's five dollars then we're having the cost of goods sold which is the total of cost of merchandise sold during that period and here we're having five bottles and each bottle is 0.5 dollars so it's 5 times 0.5 so it's 2.5 dollars so here we arrive to the gross profit where it's the sales revenue minus the cost of goods sold so 5 minus 2.5 so the gross profit is 2.5 dollars then we're having the operating expenses it means the salaries and wages that you pay for the one who's selling these bottles and also you might have the electricity and the water in order to make the shop operational so let's consider that the operating expenses in this store it's two dollars finally we arrive to the net income which is 2.5 dollars minus two dollars so it's 0.5 dollars and here we're having a net income in case the result was negative it means we're having a net loss all merchandising companies have to have some type of system to keep up with their inventory have two options to choose from a perpetual system or periodic system a perpetual system maintains detailed records of the cost of each inventory purchase and save it records continuously and shows inventory that should be on hand and also the company determines cost of goods sold each time a sale occurs perpetual systems are ideal because they give you actual inventory counts at any given point and time but they usually have a very expensive initial cost to implement so traditionally they are used for merchandise with high unit values however now with technology perpetual inventory it's becoming easier to implement the second option that we might have is the periodic system and it's a system that updates inventory at specific point in time so it does not keep detailed records of the goods on hand and the cost of goods sold determined by count at the end of the accounting period and here we will see the flow of cost for a merchandising company so first we're having the beginning inventory then we add the cost of goods purchased which will lead us to the cost of goods available for sale those goods that they are not sold by the end of the accounting period represent the ending inventory and goods that they are sold they are assigned to cost of goods sold now under a periodic system in order to calculate the cost of goods sold we will have an example let's assume the beginning inventory we're having it's one hundred thousand dollars and we add the purchases and here they are eight hundred thousand so the cost of goods available for sale it's one hundred thousand plus eight hundred thousand and at the end of the period if we counted the inventory we're having we will have the ending inventory and here we have it 125 000 so in order to have the cost of goods sold it's the goods available for sale minus the ending inventory will lead us to the cost of goods sold and here it's 775 000 when recording purchase of merchandise we have to consider that it's made using cash or credit it means on account normally recorded when goods are received and purchase invoice should support each credit purchase so here we are talking about the supporting document because every uh journalizing or every recording we have to have a supporting document and here it's the invoice in order to illustrate how we can record the purchase of merchandise we consider that sams appliances which is the buyer and here it's important to know who's the buyer and who's the seller and for whom i'm recording so the buyer uses as a purchase invoice the sales invoice prepared by atv supply incorporation which is the sellers and the invoice is dated on the 5th of june the invoice total is 3 500 we are asked to prepare the journal entry for sams appliances for the invoice from atv supply you can think about it and pause the video and then try so here we are having 3500 of inventory that they are entering sam's appliances inventory so here the inventory it's debit 3500 and since sams appliances didn't pay cash it means it's online account so it's accounts payable 3 500 now also when recording the purchase of merchandise the sales agreement should indicate who the seller or the buyer is to pay for transporting the goods to the buyer's place of business so we might have two options the first option is fob shipping point where seller places goods free on board the carrier and buyer pays freight cost as you can see the ownership passes to buyer at the seller's business place and here the buyer he will be responsible of the transit the second option we might have it's fob destination the seller places goods free on board to the buyer's place of business and seller pays freight costs also you can see that ownership passes to the buyer at the buyer's place of business so here the seller is responsible of the goods in transit freight cost incurred by the seller or an operating expense in order to better understand the different fob that we're having whether it's destination or um fob destination or fob shipping point we assume upon delivery of goods on june 5th sends appliances pays express freight company 150 for freight charges the entry on sam's appliances books is so here we have to know sam's appliances is the buyer and since he's paying the freight cost it means it's fob shipping point why because he's the buyer and he paid for the shipment or for the transportation so here the value of the inventory is increasing by the freight cost so inventory it's debit 115 and since he paid it means cash it's credit 150. the second option we might have that atv supply which is the seller pays the freight charges and here we have to see what's the entry that it should be made by atv supply since atv supply is the seller and he's paying the freight cost it means here we are in fob destination because the seller is paying for the freight charge and as we said previously when recording freight costs incurred by the seller they have to be under operating expense so here we're having it as expense freight out expense debit 115 and since he paid cash atv supply it means cash 150. now in order to continue and to see how the purchases of merchandise are recorded we're having one case that it could be returns and allowances so here purchase a purchaser may be dissatisfied because goods are damaged or defective of inferior quality or do not need specifications so here the buyer could return these goods under the purchase return so return goods for credit if the sale was made on credit or for a cash refund if the purchase was made for cash or he might ask for a discount or allowance so here he may choose to keep the merchandise if the seller will grant an allowance from the purchase price and here we will have an example about sam's appliances this is the initial transaction that we were having based on the invoice from atv supply imagine that one microwave worth two hundred dollars was defective and he wants to return it to atv supply so what will be the entry here as you can see the inventory it's decreasing because we returned one of the items so inventory will be credit 200 and our accounts payable will decrease by two hundred dollars this is why the accounts payable also will be debited so accounts payable debit because the accounts payable they are decreasing and inventory will be credit because the inventory or decreasing as well purchase discounts there are credit terms that may permit buyer to claim a cash discount for a prompt payment and it's having advantages for both the purchaser and the seller for the purchaser or the buyer it saves money because he's having a discount for the seller it shortens the operating cycle because he's encouraging the buyer to pay in a shorter period some examples about the discounts we might have like here 210 and 30 which means 2 percent discount if paid within 10 days otherwise net amount due within 30 days or we might have 1 10 eom and eom it stands for end of month and here it's one percent discount if paid within first 10 days of next month and it could be and 10 eom it means net amount due within the first 10 days of the next month and here we don't have a discount an example to illustrate how we can record a discount when we are purchasing merchandise so we assume sam's appliances pays the balance due of 3300 which is the gross invoice price 3500 plus the allowances 200 dollars so the last june 15 it was the last day of the discount period so here in order to prepare the journal entry for sam's appliances knowing that the terms it was 210 and 30 it means because he delivered atv supply delivered the items on the 5th of june so census appliances is having 10 days and 10 days it's the 15th so this is why it was the last day of discount so he's eligible to two percent discount first we have to calculate the discount amount the discount amount here it's two percent times three thousand three hundred so it's sixty six dollars it means sam's appliances will pay 3300 minus 66 dollars in cash and all the accounts payable will be decreased so here accounts payable it's debit because it's decreasing 3 300 and we're having the inventory it's credit because the value of the inventory decreased because i'm paying less for this inventory and i'm paying 3 300 minus 66 it means 3 200 here if sam's appliances failed to take the discount and instead made full payment of 3300 on june 20. the journal entry would be it's simple here because i sam's appliances it's not eligible for a discount because it's after five days of the discount period so he will pay the invoice in full so here he will pay cash 3300 credit and the accounts payable will be debit 3300. thank you for watching this video i know it's having too many details but you can if you're having any question leave it in the comments below in the other part of this video and in another video in the future i will explain how we can record the sales of merchandise so thank you for watching and stay tuned for future videos